Managing business cash flow and profitability

Manage business cash flow by protecting and understanding your cash

Cash flow is the lifeblood of any business, and certainly in the short term with current challenges it is more important than profitability. The money coming into your business makes sure you can cover payments to suppliers and employees, as well as meeting other trading costs. Managing your company’s cash flow properly is a critical part of running a business and, in the current climate, it is arguably of more importance than ever before.

Good cash flow management practices enable you to forecast your cash balances ahead of time, to help ensure you have enough to pay your bills when they fall due, while also making sure you have sufficient reserves to deal with those times when income does not arrive as you would expect. Cash flow forecasting helps you to assess and manage your pipeline of work.

We often see businesses where financial difficulties have arisen because cash forecasting processes are not sufficient or are not in place. In the majority of cases an immediate improvement can typically be seen by putting in place a rolling 13-week cash flow forecast, which helps to quickly highlight any pinch points where cash is tight.

An initial forecast can be pulled together by a project management analysis of when costs will be incurred and how much those costs will be over the course of a project. If initial outlays are large, then you will need money coming in to pay suppliers and subcontractors to ensure that the project is kept on time. There will be other cash going out of your business in the form of payments for expenses such as rent or mortgages, loan repayments, taxes, utilities, rates, salaries and new asset purchases, not forgetting interest that may be due or becoming due.

Make a list of assumptions on which to base your forecast, including a prediction of price increases for materials, salary increases and any expected rises in other costs. Give consideration to a ‘what if’ analysis about what would happen if a large payment doesn’t come in, how the business would cope if an expected project fell through, and the implications of costs on a project escalating or if it overruns due to matters such as staffing and/or material sourcing issues. 

Profit vs Cash Flow

Profit does not mean the same as cash flow and just looking at profit and loss statements does not help you to manage your cash flow. Smart cash flow management requires consideration of the above cash flow points, in addition to profit and loss numbers – knowing whether you earned a profit (or created a loss) is not the same as knowing what happens to your cash. Invoicing a customer for services or products you sold to them creates turnover (or revenue), but it is actually collecting the monies due on that invoice that creates cash in your business. The profit made is the money the project makes less all costs and expenses and, therefore, it is important to know how much to add to cover all of your costs. 

If you want your company to increase profits and grow, you need to structure your business to have a positive cash flow, so it increases its cash reserves. The following tips may assist with that process:

• Speed up receipt of monies by asking customers to use electronic payments rather than cheques.
• Track what is happening on projects, stay on top of labour, suppliers and, more importantly, track cost performance. If not already done, look at reviewing and improving your systems and the quickest and easiest way to streamline and improve your processes and procedures. There are lots of good tools available for accounting, project forecasting, scheduling or project delivery.
• Shop for the best prices, negotiate good and fair prices with suppliers.
• Negotiate payment terms with suppliers to tie in with when payments are expected to be received during a project and, if possible, review payments terms with customers and ask them to pay you sooner, or to make payments on account. This may be acceptable if you offer payment incentives and discounts for early payment (only a couple of per cent). While this may not improve your profit margin, it may help your management of cash flow so you can make your own payments on time and avoid fees for late payments and interest.
• Check credit reports of customers.
• Process change orders quickly – do not wait until the project is complete.
• Penalise for late payments.

Profit margins

Making sure that you have a realistic cash flow in place together with project management analysis is the only way to ensure you can add the appropriate mark-up and margins to the overall costings of the project so that it will be profitable for you. 

Remember also that turnover is the income derived after deducting VAT and other relevant taxes, which is different to profit and profit margins. 

Mitigating the risk to your business

Cash flow reflects your overall business state and a negative cash flow (spending more cash than is coming in) can push a company not only into finance trouble, but also to its demise.

By putting a cash flow in place and tracking it every month, you are helping to manage risks to your business and though you might not be able to control what is happening with the wider environment, you can control your actions and how you position your business to be able to withstand whatever the future may hold. 

Begbies Traynor Group is on hand and ready to help with cash flow management issues, strategies to improve working capital, as well as sourcing funding to help you deal with the challenges that may arise in the current climate.