In assessing their business,
most owners focus on growth in sales and profits. Yet these do not guarantee
business health and success. Another important gauge is cash flow.
Simply put, is there enough
cash inflow to cover cash outflow? Cash flow needs change on a daily basis. The
more you're aware of cash flow needs, the more control you'll have over your
business.
● Calculating cash flow. Cash flow from
operations can be calculated by taking net profit, adding back depreciation and
amortization (noncash outlays), subtracting increases in accounts receivable
and inventories during the period, and adding increases in accounts payable.
Calculations can be done on whatever operating cycle time frame is most
meaningful to you (monthly, quarterly, etc.). Best results are usually obtained
by using monthly cash flow statements and projections based on prior
experience.
● Using cash flow. Building a history of
cash flow needs by using historical financial records will provide an
invaluable tool for projecting the timing of receipts, expenditures, and
financing needs. Periods of negative cash flow can seriously hinder expansion
plans and may even lead to business failure. Cash flow statements and
projections can forewarn you of cash needs and allow you to implement changes.
● Improving cash flow. Proper management
of accounts receivable and inventory can strengthen cash flow. Review billing
procedures to reduce lag time between shipping and invoicing. Reexamine credit
and collection policies. Consider offering discounts for early payment and
charging interest on delinquent balances. Review inventory levels. Be alert for
stockpiles and excess inventory. Dispose of obsolete inventory by reducing
prices or selling for scrap.
Effective cash flow
management will permit better utilization of cash, generate additional funds
from internal sources, and provide advance notice of financing needs. Knowing
your cash flow requirements is imperative for business success.
