Cash flow is the term used to describe money coming into and going out of a business over a specified period (monthly, quarterly, annually). Healthy cash flow is required to enable a business to meet its production costs and its commitments to creditors, suppliers, employees and the tax man. One in four businesses close within the first year and fifty percent don't make it past year 5 owing to poor cash flow. For many companies, a poor couple of months' trading is all that is needed to create a cash flow problem.
What can be done?
Most of the following should be implemented as good business practice and as mitigation against problems with cash flow before they arise. Absence of these things are often a contributing factor to problems in the first place.
Consider other financing options
Some companies that suffer from cash flow problems started off with unsufficient funds in the first place. There are many ways of raising extra finance however, and some of the most important ones are listed here
. For a lot of others, however, the problem has been caused by successful growth, outstripping the money supply. If you sell to other businesses invoice financing may be a great solution, since it can allow you to raise money against the invoices you issue or even sell them outright. Some invoice finance companies will even allow you to draw funds on the day the invoice is issued, which can get you round the problems caused by habitual slow payers. There are also specialist finance providers who can advance funds against the security of your stock, plant or bricks-and-mortar assets. Contact us for more information and introductions to potential lenders.
Install an accounting system to avoid disorganised
A director should be able to see on request, the financial position of the company, how much money is coming in, how much is going out, age of debts etc. An accounting system will enable this.
Be firm about credit control
An effective credit control system is an adjunct to an accounting system. It will help a business manage it's creditors. Businesses should consider credit checking customers, asking for deposits, or where a service is being provided over a period of time, issue partial invoices as soon as each stage is completed.
Synchronise payments in and payments out
If suppliers expect payment within 14 days, and the business allows its customers 30 days to pay (and many customers pay outside that period) problems can soon arise. Payments out of the business should be, as near as possible, synchronised with payments received.
Watch your profits
Monitoring the business closely should enable a director to see how much profit the company is making. Good business forecasts will show the periods during which profits are likely to fall. This should be monitored against actuals and, if there is a discrepancy, action should be taken to both find out why, and to
attempt to increase profits by considering conducting a sales drive or increasing the prices of the goods or services.
Create cash flow forecasts
By using cash flow forecasts, informed by monitoring actuals and feeding that information into future forecasts, a company should be able to build a very accurate picture of how much cash flow it needs at any given time. If actual cash flow exceeds this by an agreed tolerance, action should be taken to find out why.
Don't grow too quickly
A business should be cautious about taking on large orders it doesn't have the capacity to meet. Doing so will probably mean that it has to take on staff, or order large quantities of stock that it cannot pay for until the customer pays their bill for the product or services. This could mean suppliers go unpaid, or that staff do not receive wages when they are due. Nevertheless, it is not always a good idea for a company to turn orders down. It may be possible for a company to arrange a line of credit with which to meet the expense of furnishing the large order, until the customer pays their bill.
Don't exhaust working capital
Unless a company can clearly afford to buy a major asset, it may be better to investigate the possibility of asset leasing, or asset financing, rather than seriously diminishing working capital by paying for it outright.
If all else fails, there's always insolvency
If, despite taking the above steps, a business becomes
cash flow insolvent, directors should seek professional advice about the options open to them. Their aim, providing the problems are short-term and can addressed, should be to remain in control of the business and avoid
formal insolvency. There are a number of steps a business can take including:
- Trying to reach an informal agreement with creditors to make reduced payments for an agreed period. If the creditor is HMRC the business can ask for time to pay, in which case, HMRC will expect to see documentation that substantiate claims that business will recover;
- Ask a Business Recovery Expert to assist with restructuring the business to make it more profitable and release cash;
- Arrange a formal agreement with creditors to pay off debts through a Company Voluntary
Arrangement (CVA), arranged through an Insolvency Practitioner.
- Investigate other ways of funding the business to address the cash flow problem. This could include taking out additional finance secured against a business or personal asset, or arranging Invoice Financing through invoice factoring or discounting.
More serious action
If none of the above prove possible and the company becomes insolvent, next steps are likely to be:
- Voluntary liquidation;
- Compulsory liquidation;
The primary objective of professional parties, such as an Insolvency Practitioner, involved in the above, is to protect the interest of creditors. If, after looking at all the evidence, they believe that a company can be turned around and that is the best option for creditors, they will do what is necessary to effect that. If recovery is impossible they will arrange for the company's
assets to be valued and sold and creditors paid from the proceeds.
A final word
Poor cash flow is the major cause of formal
insolvency which carries a high risk of the company closing. For many companies, where there is still a market for what is produced, mitigating risk properly, paying close attention to the company’s financial situation, accessing professional help and acting on it by tackling problems with cash flow, credit and debt as soon as they arise, may be all that is needed to stave off a more drastic