Cash Flow Can Depend On This One Thing

Cash is the lifeblood of any business. If a business owner fails at properly managing their cash flows, they may quickly come to the conclusion that the business has to shut down, even if it is a profitable business. Why is that? Profit means that the business is making money, right? Well, this is both true and untrue concurrently.

Mismanaged Credit Confuses Numbers

Profit is determined by subtracting your costs from your revenues, this is simple enough. The confusion arises when you involve sales and purchases made on credit. After deducting your expenses from your revenue (revenue that was made by providing products to your customer on credit), you will most likely record a positive figure. But given that the cash has not yet been received from your customers, you will not have that exact amount of profit sitting in your bank account, waiting for you to spend.

If a significant portion of your sales is made in credit to your customers, you may end up short on cash when dealing with suppliers and other expenses; therefore, cash flow management is crucial to the survival of your business. If cash is the lifeblood of any business, credit is the heart that pumps that blood through the arteries of the business.

How to Solve It

One of the key elements of having a good cash flow management system is to have strict policies on credit sales and purchases. Some establishments avoid that entire debacle by not offering any credit to customers at all. It’s a simple enough solution, but it could rob your business of the potentiality of bulk sales to a large, corporate customer, as they would want to purchase in bulk on credit to manage their cash flows.

The prudent business owner will ensure that sales on credit are paid back within 30 days, but the payback time for purchases are extended beyond that (60-90 days). This way, you have your customers paying you long before your suppliers come knocking on your doors for the money that you owe them.

Striking a balance is important

Note that having too much cash on hand is also not the ideal situation, as inflation devalues stored cash. If your business is doing well enough, I would advise investing the free cash in low-risk short-term investments.

Leave a Reply

Your email address will not be published. Required fields are marked *