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No matter what the size of your business, one truth remains: cash flow is king. It’s the lifeblood of your business. Yet, while most small business owners know this truth, many still struggle with basic cash flow definitions, fundamentals or management strategies that actually maximize benefits. In today’s uncertain economy, characterized by frequent market fluctuations and ever rising interest rates, many small businesses with limited financial knowledge are struggling to stay alive, let alone thrive. So why is poor cash flow management such a large killer of small businesses? Here are the two main reasons:

1. Companies overestimate their income and underestimate their expenses

2. Companies don’t see a cash shortage coming and they run out of money

You can have the most unbelievable service or product in the world, but if you run out of cash, it won’t matter. All of the hard work, planning and strategic thinking that went into creating and launching your business could easily be erased with poor cash flow management habits. Simply put, there is no better time than now to get your cash flow reality in check.

Cash Flow 101

Cash flow is the difference between inflows (actual incoming cash) and outflows (actual outgoing cash). Income is not counted until payment is received and expenses are not calculated until payment is made. Cash flow also includes infusions of working capital from investors or debt financing.

On a more formal level, cash flow is an accounting term that refers to the amounts of cash being received and spent by a business during a defined period of time, sometimes tied to a specific project. Basically, it doesn’t matter how much money is coming in the future if you don’t have enough money to get from here to there.

Cash flow is often calculated on a monthly basis, since most billing cycles are monthly. However, in a cash-intensive business with a lot of inventory turnover, such as a restaurant or convenience store, it may be necessary to calculate on a weekly or even daily basis.

It’s also important to be clear about the differences between cash flow and profit. As noted above, cash flow is a measure of your ability to pay your bills on a regular basis. Profit, on the other hand, is the difference between the total amount your business earns and all of its costs, usually tracked over a year.

To generate a profit, most businesses have to produce and deliver goods and services to their customers before being paid. However, if you don’t have enough money to pay your employees and suppliers before receiving payment, you’ll be unable to deliver your side of the contract and ultimately, receive a profit. Therefore, to be able to grow your business, you need to build up sufficient cash balances to ensure consistently positive cash flow situations. Read on to learn more about critical strategies designed to help you maximize and manage your cash flow.

Eight Critical Strategies for Effective Cash Flow Management

Culled from years of small business expertise, here are some key tips for managing your cash flow effectively and efficiently:

1. Set up systems that work for you

If you manage a service business, and you have just a few major customers, then just about any cash-flow management system will work for you. You may be perfectly satisfied with the cash-flow management capabilities built into your business accounting system. Or you may prefer a more flexible spreadsheet-based approach, which permits easy scenario-based projections so you can account for future business uncertainties.

If you sell many different products, particularly ones which may decrease in value over time, you need a good inventory-management solution to identify slow-moving or end-of-season/line products. You won’t sell many winter coats after February, for example, so maybe you should plan to put the slow-movers on sale in January. The information you need may come from an existing inventory report, or you may need to extract information from the inventory and sales database and use a report-writer application to get the information in a form that’s most useful to you.

Whether you’re using Microsoft Excel spreadsheets or packaged accounting systems, it’s critical that you have a method to the managing cash flow. Forecasts, inflows and outflows need to be regularly visualized so you can anticipate how cash flow is panning out and if you need to make adjustments. In this way, you can see if there are imminent cash imbalances that you’ll need to manage. For some, outsourcing this process to accounting professionals is best - it’s truly dependent on your comfort level and knowledge.

2. Know how to project your cash flow

This is where it all starts, no matter what type of business you operate. It’s imperative that you are able to initially project your cash flow and then over time, update it with actual figures (more on that below). But first, you need to develop a process that will help you build a foundational projection method:

• Start with the amount of cash on hand - your current bank account balance(s) plus actual currency and coin.

• Make a list of estimated inflows - customer payments, collection on bad debts, investment income, etc. List the amount as well as when it will be coming in.

• Make a list of anticipated outflows - payroll, monthly overhead, payments on accounts payable or other debt, taxes payable or set aside for future payment, equipment purchases, marketing expenses, etc.

• Put it into a spreadsheet in chronological order. If you’re showing a negative cash balance, you have a potential problem. It’s best to be extremely conservative, that is, estimate inflows lower and sooner and outflows higher and later. If you end up with a cash surplus, it can cover you for an unanticipated cash shortage in the future, or be invested in something to help grow your business. On the other hand, if you end up with an unanticipated cash shortfall, you can end up damaging your credit, losing suppliers, having to cut employees, or out of business entirely.

3. Know how to account for actual cash flow

Keep a copy of your forecast, but also monitor and track your actual cash flow. Comparing it to your forecast will help you realize where you have overlooked something in your planning. After a few months of tracking, you’ll also find it an essential management tool.

As time progresses, you’ll realize that some of your predictions were wrong. That is a natural part of the process. When this happens, update figures on a weekly basis to make your cash flow realistic. Once a year passes and you have a solid foundation of reporting, monthly updates will probably be enough.

One idea to help keep the “flow” healthy is to consider changing your billing cycle. A rule of thumb is to bill 25% of the alphabet each week. Then, you’ll receive money from customers at regular intervals, rather than on a monthly basis.

It is critical to be realistic by always overestimating your expenses and underestimating your income. Your cash flow should always be a ‘worst-case scenario’. If you know you can stay in business when things aren’t going well, then you know you’ll be fine if the best-case scenario happens.

4. Manage customers well

An inherent-and expected-part of the customer relationship is the understood exchange of cash for the supply of goods and services. If you’re managing customers in the right way with regards to billing and payment, you’ll keep your cash flow healthy and your customer relationships strong.

A large part of this involves getting invoices out promptly. If you invoice clients, you’re not going to get paid until you send out the invoices. If you send out your invoices on the 28th of the month, and your customers pay their bills around the 25th of the month, you’ll have to wait a month before they pay. Speed up cash flow by sending out invoices as soon as you ship products or complete a job. Also, use remittance envelopes, pre-addressed and stamped, and mail them with your statements. This saves the client time and effort in mailing your payment and, oftentimes, saves at least one to several days in your receiving payment.

You can also accept credit cards to speed up cash flow. Whether you are a retail store, business or government entity, you can establish a process for customers to use credit cards when making purchases. Instead of waiting 30 days or more to collect customer payments, you can get paid in two or three days by asking them to pay you with a credit card, rather than having you bill them. Naturally, you’ll have to pay a percentage of each sale to the credit card company, and possibly a monthly fee, but those expenses may be insignificant when you consider the time and money you’ll save by not having to send out monthly statements. An added bonus: speeding up cash flow can help you speed up payments to your creditors, which may lower or eliminate interest payments you make on your payables.

You may also want to consider shifting receivables to a finance company. If your customers don’t like to pay bills for your offering with a credit card, or if the amount is too large for them to feel comfortable charging, look for finance companies that will offer loans to your customers. You get paid now and you don’t have to go to the trouble of sending out monthly statements.

A final way to manage customers with regard to billing and payment is to work on a retainer basis. One way to even out the irregularities in cash flow-particularly when you are self-employed or own a small business-is to find customers or clients who will put you on retainer, paying you a guaranteed amount of money each month. Retainers are usually set up so that you guarantee you will set aside a specific number of hours to do work for a client each month. The client pays that amount whether they use up the time or not. If they go over the time, they pay an additional hourly fee. If they don’t use up all the time, they lose it. Public relations, consulting and lawyers often use this set-up.

5. Get after invoices the minute they are late

It may sound harsh, but the moment an invoice is late, call the company and start pressuring them. If they think they can get away with late payment, then they’ll put you behind all the other customers they have to pay.

Before this, though, you can instill some general processes that can help prevent late payments.

• Try to speed up customer orders by having them fax their orders to you

• Send out your invoices the same day goods are shipped

• Specify on your invoice when payment is due, including penalty interest for late payment

After that, you’ll need to follow up on late payers with phone calls and letters. While this may seem a bit much, the first notice should be sent when the amount is one day late. After 45-60 days, you should send a letter from your attorney and/or turn over the account to a collection agency.

6. Watch check clearance times

Money in the bank isn’t money to spend - at least not immediately. The law does not require banks to release funds any faster than in the past. In fact, your bank may take two business days or more to clear local checks. If your customers are out-of-state, your bank may hold deposits for up to 10 business days. If there are large amounts of money involved, those 10 business days can seem like eternity.

That being said, don’t wait to deposit checks. The first rule of cash flow management is to not accumulate checks for deposit until the end of the week. While the check is in your desk drawer, too many catastrophic events might occur.

7. Minimize inventory costs (for businesses that sell products)

If your business involves maintaining inventory, you are probably already aware of how much money goes into creating that inventory, but you may not realize how much money it’s costing you to maintain. Money tied up in inventory is money that could be used for other things.

Inventory management can be complex, depending upon the nature of the product, customers, and distribution method. For a small business, it is important to monitor inventories on an ongoing basis and avoid maintaining inventories that exceed anticipated sales.

Every item you have sitting on your shelf should eventually be transformed into cash in your bank account, and the sooner the better. If it is not moving, you’re not having cash flow.

Here are six recommendations to minimize the cost of your inventory:

• Attempt to forecast as accurately as you can the day, week and month what you expect to sell.

• If you are dealing in more than one item, determine which item accounts for 80% of your sales. Then minimize ordering other items that are selling poorly or infrequently.

• Determine how fast you can get inventory, once you order it. Try to order as late as you can.

• Don’t order too much inventory just to save a few pennies.

• Shop around and make sure you are getting competitive prices.

• Develop a policy for determining obsolete inventory, and how you can get rid of it. The best way to dispose of dead inventory is to sell it whatever you can get for it, even if that’s only 10 percent of what you paid. At the very least, it will generate cash flow.

8. Take advantage of short-term financing

Many smaller businesses may be hesitant to use financing, preferring to rely on internal sources to fund temporary cash flow shortages. However, as your business grows, this practice can thwart growth and you may find yourself making excuses not to purchase a required piece of equipment in order to meet daily cash needs.

Establishing and using a line of credit is a wise move if you want to grow your business. It’s a good idea to establish a line of credit early on, even if your business is small. Over time, you’ll build a relationship with your lender that may later accommodate more significant financing. At today’s low interest rates, short-term financing can be very affordable.

Simply put, you are never too busy making sales to worry about cash flow. This mindset is the very thing that can put a business out of business when there’s no cash to pay bills. The bottom line with cash-flow management is to develop the tools and discipline to manage it constantly, look for problems as far into the future as possible, and set up a good plan for dealing with the problems you can’t avoid.

Take the time to analyze your business’s cash flow to make the small changes that will have a big impact on your cash flow. Your business will be glad you did!

Additional Resources: http://www.inc.com/guides/start_biz/20675.html http://www.wikipedia.com/cashflow

Essentials of Cash Flow (Paperback) by H. A. Jr. Schaeffer (Author)

Andrew Brown and Small Business Guru provide Coaching, Inspiration and Practical Advice for Small Business Owners and Entrepreneurs. Subscribe to the free, weekly newsletter at http://www.small-business-guru.com

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