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Cash Flow Management

One of the major issues small businesses all across Australia have to face is negative cash flow. Thus, improving cash flow is not only a smart move but it is also necessary.

Irrespective of how profitable your business is, how great the business model is and how many investors you have, this one area always has room for improvement.

Having good cash flow management will help you ensure that the business has enough money to pay its expenses and bills.

So, here is a detailed guide dedicated to the best practices for managing cash flow for your business. But first, let’s understand what Cash Flow Management actually is.

What is Cash Flow Management?

Cash flow management is a process that focuses on improving the cash inflow without hindering the growth and expansion plans of the business. It involves monitoring, analysing and optimising the inflow as well as outflow of cash within a business.

cash flow management

Cash inflow is the money coming into a business, while cash outflow is the money going out of a business. Sales, interests on investments and the credits paid to the business fall under cash inflow, while expenses like inventory purchasing, rent, cost of maintaining and hosting a website, etc, fall under cash outflow.

A cash flow statement will record the inflows and outflows.

How does a business calculate cash flow?

For this, a business needs to know how much cash is available at the beginning as well as at the end of a specific period (it can be a week or a month). If by the end of the period, there is more money than in the beginning, the business is said to have a positive cash flow.

Cash flow is considered negative if there is more cash at the beginning than at the end of the period. A good proportion of businesses all around the world face cash flow shortages at some point during the course of running their business.

Cash flow shortage may result in a business’s inability to make payments to its debtors or owners. Managing cash flow can help you keep such difficulties to a minimum.

Calculating cash flow

Mastering the calculation of cash flow is an essential skill in effective financial management. To grasp this, familiarise yourself with three key formulas: the free cash flow formula, the operating cash flow formula, and the cash flow forecast. Each of these serves a distinct purpose in assessing and projecting your business’s financial health.

Free cash flow is indicative of the resources available for distribution among stakeholders, highlighting the capital earmarked for reinvestment—whether in new equipment, store expansion, or launching a new product.

The operating cash flow formula provides a snapshot of the day-to-day cash movements within your business, offering valuable insights into your immediate financial liquidity.

For a forward-looking perspective, turn to the cash flow forecast formula. This anticipates your cash position in the upcoming month, quarter, or year, aiding in proactive financial planning.

All three formulas are integral to comprehending the ebb and flow of finances in your business:

  • Free Cash Flow Formula: Net income + Depreciation ÷ Amortisation – Change in working capital – Capital expenditure = Free cash flow
  • Operating Cash Flow Formula: Depreciation + Operating income – Taxes + Change in working capital = Operating cash flow
  • Cash Flow Forecast Formula: Beginning cash + Projected inflows – Projected outflows = Ending cash = Cash flow forecast

How to manage your cash flow

When it comes to managing your cash flow, the three steps that can be proven extremely beneficial are Analysing, Observing, and Enhancing.

managing your cash flow

Analyse the current situation

The very first step towards a healthy cash flow is analysing the current situation of your business.

It includes knowing how much cash or money the business already has, its source, and the outflow. By understanding these, you can not only identify the challenges but also make informed decisions about your business.

Observe to predict (cash flow forecast)

The cash flow forecast gives a future look at the cash flow in the coming month, quarter or year.

Cash flow forecasting helps you prepare yourself to face the challenges that may arise.

However, you should keep in mind that sometimes businesses and processes are affected by external factors that are beyond their control. One such example of this would be a pandemic.

Enhance the process

If you have taken the above-mentioned two steps, you should be able to figure out what needs to be fixed. You may require the support of a professional accountant, depending on the circumstances.

Improving Cash flow

Since you know what cash flow management is, here are some ways to improve the cash flow and optimise your working capital.

Negotiate improved payment terms with your suppliers

When faced with clients who consistently delay payments, causing disruptions in your production or sales processes, consider reaching out to your suppliers for potential solutions.

Explore the possibility of negotiating improved deals, more favourable time frames, or instalment repayment options. Transparency is key in these situations – honestly communicate your current standing and inquire if there’s room for collaboration on better payment terms.

A strategic approach involves invoicing your customers promptly while extending payment timelines with your suppliers, following the rule of thumb for optimal cash flow management.

Future cash flow

Invoice immediately and deliver your product ASAP

The key principle here is to prioritise swift delivery of your product or service and promptly issue invoices. It’s crucial to excel in managing these invoices effectively. 

Understand the sources of your income, determine the necessary reserves, and assess your capacity to meet debt and loan obligations. Take note of recurring late payments and devise strategies to address them, even considering whether it’s wise to continue working with persistent defaulters.

A piece of advice – if these financial intricacies seem overwhelming, don’t hesitate to seek assistance. Seeking help is a smart business move, indicating practical wisdom rather than weakness.

Manage working capital and cash reserves

Efforts should be directed towards minimising operating costs and eliminating any unnecessary expenses. Building a reserve for unforeseen costs is equally essential. Regularly reviewing your cash flow statement and bank accounts is crucial to ensure a sufficient cash buffer.

Avoid going into overdraft unless it is essential for growth. If dividends are part of your financial strategy, closely monitor payments to prevent undue strain on cash flow. These proactive measures contribute to maintaining a healthy financial position for your business.

Benefits of Cash Flow Management

Managing your cash flow is not just about the numbers, it is a strategic approach that can transform the way you navigate the ups and downs of your business journey.

So, let’s pay attention to the benefits one could expect with good cash flow management.

Predict Shortfalls

Anticipating financial challenges is the first step to overcoming them. 

This foresight empowers you to prepare for unforeseen impacts on customers or suppliers, allowing you to make informed decisions, such as negotiating payment terms or strategically adjusting your business operations.

Imagine having the flexibility to delay a shipment or run a targeted promotion to boost sales during challenging times. Sounds amazing, right?

Know about the right time to grow

Cash flow insights empower you to make better decisions about business growth. Unlike profit and loss statements that may not accurately reflect your available funds, cash flow analysis provides a real-time understanding of your financial health.

This clarity enables you to determine how much capital is available for growth initiatives, ensuring strategic and sustainable expansion.

Having $20,000 in the bank doesn’t automatically mean it’s available for spending; understanding your cash flow tells you when it’s safe to invest in growth.

Reduce stress

One of the hidden advantages of effective cash flow management is the reduction of business-related stress. Knowing your financial standing at all times alleviates the anxiety around bill payments and financial uncertainties.

With a clear understanding of your cash flow, you can face challenges head-on, feeling prepared and equipped to navigate any hurdles that come your way.

Improve budget accuracy

Cash flow projections offer a more accurate depiction of your financial reality compared to traditional budgets. While budgets may represent wishful thinking, cash flow projections provide a practical overview of your financial situation.

Staying on top of your cash flow allows you to deal with the actual circumstances, ensuring better financial planning and risk management.

cash flow management

How To Manage Your Accounts Receivable

You have to monitor outstanding invoices diligently and take prompt action on any missed payments. Consider implementing a stricter credit policy for clients who default on their payments. For those with a history of late payments, enforce penalties to ensure timely settlements.

Maintain effective debt management for your business by meeting financial obligations on schedule. Late payments can lead to additional financial burdens, such as penalties and fees. If you find yourself needing additional funds to support your cash flow, explore the option of applying for a small business loan.

However, ensure that you can repay the debt within the agreed timeframe. In times of financial challenges, remember that we are just a click away. Whether it’s reviewing your expenditures or helping you find ways to save money, we’re here to assist you every step of the way.

With a proven track record of enhancing operating efficiency and optimising financial flows, we have the tools to overcome any obstacles hindering your business operations.

Is cash flow the same as profitability?

It is essential to know that cash flow and profitability are two different things.

One of the primary differences between the two is that the former is shown on the cash flow statement while the profit is shown on the P&L (profit and loss) statement or the income statement.

A profitable business may not necessarily be able to pay its bills.

A business may be successful over the course of a year or a month but not for a certain day or week. So if the bills are due at the month’s start, but the business will not have the money to pay them till the end of the month, it is a cash flow problem even if the business makes a profit by the end of the month.

Why Is Cash Flow Essential For Small Businesses?

Cash flow is extremely important to a small business as it tells how much money is actually moving in and out of the company and not how much money is awaiting from accounts receivable.

A positive cash flow indicates that the business is generating more revenue than it is expending, ensuring funds are available for essential needs like payroll, equipment upgrades, loan repayments, and other operational requirements.

On the other hand, a negative cash flow may lead to challenges in meeting obligations such as employee salaries, supplier payments, rent, and daily operational expenses. Incorporating effective cash flow strategies into your business plan is essential.

This proactive planning allows you to anticipate the specific times of the month when funds will be deposited or withdrawn from your bank account. By understanding your cash position, you can confidently navigate your financial responsibilities.

It’s crucial to recognise that invoiced amounts don’t translate into usable funds until they are actually received. Cash flow strategies provide insights into when these funds will become available. A key component for facilitating cash analysis in your business model is the adherence to proper accounting standards.

While businesses may operate on either a cash or accrual basis, a combination of both is recommended. This approach ensures a comprehensive understanding of the financial landscape and aids in effective cash flow management.

Need some help with cash flow management? Reach out to Clear Tax Accountants today! We are a team of professional tax accountants in Melbourne who can help you make the right financial decisions for your small business.


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