Prepared By: Felipe Peres, MBA

The George Washington University

Who are small business owners most fearful of? What can destroy a small business faster than anything else? What is the third highest-ranking small business problem, as seen by those who should know-small business owners? Creditors, suppliers, and employees, who demand prompt payment, force the unprepared small business owner to constantly scramble to meet his obligations to them. If the small business owner upsets these key individuals, by not having sufficient cash to pay of his debts, inventory, and payroll, respectively, no matter how much his business thrives in other areas, it will fold. This lack of cash is called a cash flow gap. Cash flow management involves matching the timing of cash outflows with cash inflows and vice versa so that the business does not run out of cash, its lifeblood.

Successful cash flow management involves setting aggressive accounts receivable policies to maintain an unimpeded cash inflow into the business. These policies may include, but are not limited to (Use your imagination) offering discounts for early payment, and penalizing late payments. Most importantly, once you set a policy, you must be firm with customers. If a customer takes his business somewhere else because of policy follow through on your part, forget him. Unrecoverable accounts add up to much more lost revenue, than lost revenue resulting from customer flight. With respect to outflows, make sure you delay your payments until the last day of the discount period. Also, pay your employees less often, you want to maintain the availability of your cash for longer periods. Furthermore, make the extra cash that you will now have available work for you by investing it short term to earn interest. Lastly, as another idea to free up cash, interview suppliers to see which ones (Select only a handful) are willing to cooperate with you to provide just in time (JIT) supplies.

Preparing a cash flow budget, with the aid of a template, is invaluable in many ways. Doing so, one can predict the ability of a business to create the necessary cash to expand or support itself. Also, a budget can predict a business’ cash flow gaps, (Periods where cash outflows exceed cash inflows) allowing the small business owner to get a loan for that period. Finally, a formal cash flow budget can even be shown to the potential lender to assure him/her that you will have the cash available to pay back the loan. When preparing a cash flow budget, make sure the budget template allows for a sensitivity analysis to be performed. No matter how much preparation one puts into a cash flow forecast, the actual results will undoubtedly be different from the budgeted amounts. For this reason, the budgeted amounts must be conservative. Running out of money to pay obligations that come due, even for a short while, can have a significant effect on a small business’ ability to survive. Thorough follow-up and analysis should be done, even if the variance is positive. The idea is to go back and expand on that, which produced a positive variance, and diminish that, which led to a negative variance.

In conclusion, avoiding cash flow problems requires an understanding of the importance of cash to a business, knowing about practices which delay cash outflow and those which speed cash inflow, and performing cash flow sensitivity analysis on the budget.

Here are a few websites that I found useful in my quest to learn how to avoid cash flow problems:

http://www.ioma.com/ioma/cfer

Here, you will find several articles, which will convince you of the importance of improving your cash flow. Additionally, you will learn how to improve cash flow, with a list of early warning signs that tell you when you are headed for cash flow problems.

http://www.quicken.com/small_business

In this site, the small business owner is shown how to properly analyze the components that affect the timing of cash inflows and outflows. This enables him to narrow his cash flow gap, in time to save his business. Also, a cash flow budget template is available to help put theory into practice. Lastly, a link called Some Cash Flow What-Ifs, with a built-in cash flow sensitivity analysis template, lets you look at various scenarios to avoid any cash flow surprises.

http://www6.americanexpress.com/smallbusiness/segments/managing_your_cash.asp

This is a very complete site. More ideas on how to increase cash flow abound here. Whereas, other sites fail to mention the distinction between accrual and cash basis accounting, which is what is used for cash flow management, this important subtlety is captured here. Another weakness of other sites, failure to explain useful financial ratios, is clearly explained here. Finally, with the Projecting Cash Flow link, the theme of avoiding cash flow problems is advanced.