The fact that cash flow remains the most common cause for small business failure makes it seem impossible to master. Yes, cash flow problems are arguably inevitable. But here’s what a lot of people forget: There aren’t too many variations of them. Most business’s cash flow problems are caused by the same things. When a business falls to cash flow, it’s usually not because the business leader spotted the problem and it just proved too difficult to solve. The business leader either failed to spot the problem before it was too late or spent too much time trying to fix another problem that appeared to be more important. Had these business leaders understood the real reason they weren’t making as much money as they should be, they would have immediately taken the appropriate measures to fix it.
It’s crucial to identify the root of your cash flow problem because the solution might not be as obvious as you thought (more customers, more products, etc). Here are three common cash flow problems for small businesses and how to fix them:
What causes profitability issues?
Businesses are often caught off guard by insufficient profitability because unlike other issues, this one isn’t looking you right in the eye every day. You could be suffering from insufficient probability yet have no trouble paying your monthly bills, at least for the time being. Probability issues would also be a lot easier to solve if there was only one possible cause. But eventually, low profit margins will turn into low gross margins. So, it’s up to the business leader to get out the calculator and examine each potential cause for insufficient profitability.
First on that list is expenses. You might not be able to eliminate a recurring expense entirely but you’ll probably be able to find a better rate. Take your business credit card, for example. If your business has grown since you first got the card, you might be eligible for lower fees or monthly payments. Another major factor for profitability is the cost of goods sold. When you’re a young business, you’re not in the position to negotiate prices for inventory or the materials used to make your products. But once you have established a solid track record of regular purchases, it is not considered inappropriate to ask for a discount. You might not be able to get one at this moment but your vendor might make you a promise for a couple of months from now.
After expenses and cost of goods sold, the next most common cause for profitability issues is pricing. Undercutting your competitors’ prices might have been your strategy in your early stages but this could backfire once you take on more expenses, like additional employees. Revisiting your competitors prices might suggest that there is little risk in a slight increase, say, less than 5%.
Traditional Invoice Terms
Most businesses that collect payments via invoices use the same model. Customers are given 30 days to pay, which seems reasonable since business expenses are due in a month’s time. But as any retailer, wholesaler, or doctor knows, late-paying customers are essentially unavoidable. In the past, you could still keep your cash flow under control with a few late-paying customers. This is much more difficult to accomplish in today’s market. Thankfully, there are a number of solutions you can easily implement. You could send more than one invoice per month, offer discounts for clients who pay early, or only offer 30-day terms to clients with nearly flawless payment histories.
If these solutions prove ineffective, you might want to look into accounts receivable factoring. This refers to a business financing company purchasing your unpaid invoice for a discount price and paying you just 2-3 days after contacting them. It is now the business financing company’s responsibility to collect the payment from your customer. The discount is offset by the shortened time frame between sending an invoice and being paid. The longer an invoice goes unpaid, the less valuable it becomes.
Ordering Too Much Inventory
When it comes to inventory management, the goal is to keep just enough stock to meet demand. Unused inventory sitting on your shelves harms cash flow by reducing your spending and selling power. There are at least two ways to avoid this scenario: You could ask for a considerable discount for a bulk order or, ideally, only order inventory shortly before it will be sold, when you have a firmer grip on demand. Companies like United Capital Source can help you accomplish both strategies. A merchant cash advance could be used to order bulk inventory for multiple seasons, since the majority of the debt wouldn’t have to be paid off until the busy season arrives. A business line of credit could be used to order inventory at the last minute before a busy period since you’re ordering less items and those sales are just around the corner.
Small business owners are notoriously busy and have very little time to spare. But if you choose the right solution, figuring out the root of your cash flow and profitability problem is something you’ll only have to do once. A few conversations with your accountant or a business financing company seems like a pretty small cost for ensuring your business is headed in the right direction.