An old saying says money makes the world go round, especially in business. No matter how well a company does, it’s not immune to short-term cash flow problems.
Short-term cash flow problems in small businesses are common. However, a lack of cash flow can greatly detriment small businesses and lead to closures. The key to overcoming these issues is understanding the root of the problem and then taking action to address it. AdvancePoint has curated the best practical steps to improve your short-term cash flow problems in small businesses and get back on track.
What is a cash flow, and what are its types?
Cash flow is the total amount of money moving in and out of business over a certain period. It’s important for companies to understand the different types of cash flow, as each type can help indicate the company’s financial state.
In general, there are three types of cash flow:
- Operating
- Investing
- Financing
Operating cash flows are all the day-to-day activities related to running a business, like generating sales or paying bills.
Investing cash flows involve buying or selling investments such as stocks or property, while financing cash flows are related to borrowing money or repaying debt.
Remember: Knowing how to track your cash flow helps you understand where your money goes. So always plan to have enough funds available (when needed). In the event that you get this wrong, an unfortunate problem like short-term cash flow problems may arise.
How do short-term cash flow problems arise in small businesses?
As mentioned earlier, small businesses can quickly find themselves in trouble without good cash flow management. Here are the listed issues that creates a short-term cash flow problem:
Late payment by customers
When customers fail to pay on time, it can create significant problems for small businesses regarding their short-term cash flow. As a result, the company is less able to cover costs and invest, which also means it can’t take advantage of market opportunities.
Late payments lead to:
- Much higher borrowing costs.
- The necessity to use expensive short-term finance solutions such as credit cards or overdrafts.
Ordering excess stock
When business owners purchase more stock, they can quickly find themselves with limited capital to finance other necessary operations. Furthermore, overstocking products also means that more items need to be stored, further adding to operational costs.
Carrying too much inventory will not only tie up valuable cash but also lead to expenses like:
- Storage
- Handling, and
- Maintenance costs.
These expenses can have a major impact on the overall profitability of the business and long-term viability.
Misplaced staff wages
Management and adequate record keeping of staff wages can lead to excessive spending, requiring businesses to borrow more money to cover regular expenses.
It leads to:
- Inability to pay vendors and suppliers on time
- Missed payroll taxes, and
- Penalty fees.
Paying suppliers for stock that is not moving
In small businesses, purchasing and paying suppliers for unused stock creates significant short-term cash flow problems.
Nevertheless, as a small company, they probably deal with:
- Limited resources, such as capital and
- The availability of credit.
So if the stock isn’t selling quickly, it may lead to:
- Lack of liquidity, leaving them unable to pay their bills or invest in new opportunities.
How to improve short-term cash flow problems in small businesses?
Small business owners can use several strategies to improve their short-term cash flow.
Create a budget and stick to it
Through a budget, you can identify areas where money can be saved and prioritize spending more efficiently. A regular monitoring of expenses is also key to tracking cash flow and identifying potential problems early.
Establish clear payment terms and follow up on unpaid invoices quickly
This strategy helps ensure timely payments from customers. Offering discounts for an early fee is a great way to encourage customers to catch up on their payments.
Offer additional services or products
This strategy provides an alternative source of income when other revenue sources may need to be faster or more consistent. These alternate services/products must complement the current offerings of the business and target existing customers as well as potential new ones.
Use a business card to make a payment
An ideal solution is using a business card to pay vendors in a small business facing cash flow problems.
- Business cards have various credit limits and terms, meaning businesses can choose the right card per their cash flow needs.
- They offer rewards and discounts on purchases and cash back with short-term financing options to help small businesses survive tight periods.
Explore options: Invoice factoring/ Lines of credit to increase operating capital
Invoice factoring is a lending product where a business can sell its invoices in exchange for an advance payment at a discounted rate. This payment can be particularly beneficial for companies with slow-pay customers, as it provides immediate cash flow, which small businesses desperately need.
A line of credit provides the business with an approved amount from the bank that they can draw from as needed and repay over time. It gives small businesses access to funds quickly without waiting on customer payments or taking out large loans. Lines of credit also provide more flexibility than traditional loans because they allow smaller amounts over longer periods which helps make them less risky and more affordable for small businesses.
Hence, with some careful planning and dedication, you should be able to overcome short-term cash flow problems and continue growing your small business!