Effective cash flow management is critical to the success of small and midsize businesses. It is also one of the biggest concerns the owners of these businesses face.
A 2024 survey found that:
- 91% of business owners and managers experience cash flow issues;
- 71% of business owners say cash flow issues have had a negative impact on them, causing stress, anxiety, burnout, and lack of sleep;
- And cash flow issues most often resulted in missed growth opportunities and delayed or canceled projects.
Solving this problem starts with educating business owners about cash flow – what it is, why it matters, and how it can be managed and protected over time. Let’s start with the basics, we’ve also developed a free template to jumpstart your improved cash flow management process.
What is Cash Flow?
Cash flow refers to the money that flows in and out of a business. Money flows into the business by way of revenue, and it flows out through expenses and investments. Businesses need to track those numbers to understand their liquidity, flexibility, and overall financial performance.
Assessing and understanding cash flow involves more than keeping an eye on your bank statements. Small and midsize businesses can and should generate cash flow statements to track changes in cash flow over time and to understand if they have enough cash on hand to pay expenses (like payroll or rent) and purchase assets.
Cash flow statements typically track the changes in a company's cash position over a specific period, rather than providing a snapshot of cash at a single point in time. Unlike an income statement, which shows a company's profit or loss, a cash flow statement reveals the movement of cash both into and out of the business. This statement is crucial for understanding a company's liquidity and ability to meet its short-term obligations. (The U.S. Securities and Exchange Commission offers a great primer on basic financial statements here.
- Operating Activities: Cash flow generated from the normal day-to-day running of the business (e.g., sales revenue, payments to suppliers).
- Investing Activities: Cash flow related to the purchase and sale of long-term assets (e.g., property, plant, and equipment).
- Financing Activities: Cash flow related to debt, equity, and dividends (e.g., borrowing money, issuing stock).
Unfortunately, 95% of small business owners make financial decisions based on their bank balance alone, according to the 2024 survey. They think they are keeping close track of their company’s financial performance, and yet they are missing a significant piece of the puzzle. They may not have the right financial resources to generate cash flow statements and track cash flow over time – or they might not even realize they need to.
The Importance of Cash Flow for Small and Medium Sized Businesses
Cash flow affects whether your business can meet its financial obligations, navigate unexpected challenges, seize growth opportunities, and maintain overall financial stability. It allows you to answer important questions, such as “Can my business meet payroll?” “Can I make my vendor payments?” “Do I have enough cash on hand to cover my quarterly tax payments?”
When businesses lack an understanding of cash flow or strategies to manage it, they run the risk of falling delinquent in key areas. For instance, the 2024 survey found that 31% of small to midsize businesses in the U.S. have missed or been late to pay major expenses, such as the owners’ salaries, supplier bills, or rent. And mentioned, cash flow problems can significantly hinder business progress, leading to missed growth opportunities and delayed or canceled projects.
What Factors Impact Business Cash Flow?
Multiple factors impact cash flow within a business, and many of them are universal, affecting businesses regardless of industry or sector.
✓ Accounts Receivable
How fast is cash coming in the door? If customers have too long to pay or payments are not collected fast enough, the business has an accounts receivable asset but no cash.
✓ Accounts Payable
What does your business owe? This involves the outflow of cash from your business, and the goal is to keep the cash coming in faster than it goes out. Businesses can often take action to create more cushion when it comes to these commitments. For instance, you can negotiate terms with vendors so that your business has adequate time to pay without incurring additional fees.
✓ Inventory Management
Cash invested in inventory is cash that is not in hand. Given that, it is important to develop a strategy to manage inventory to ensure you preserve as much cash as possible; while ensuring you have the necessary products to satisfy customer demand.
✓ Costs
This includes the costs of goods and services the business needs to operate and can include everything from rent to utility bills to production. As part of a cash flow management strategy, business owners can consider ways to reduce costs or restructure them to control when and how expenses are paid. For instance, large payments can be divided into smaller chunks to be paid out over time.
✓ Bank Line of Credit
Can your business access a line of credit? This gives you access to cash during slow sales times or when unexpected costs occur. It can also be used to invest in growth initiatives. However, it is important to understand the resulting obligations that come with accessing your line of credit.
How to Manage and Protect Cash Flow
There are many steps your business can take to manage and protect your cash flow, but in our experience, the best way to ensure your business has the right amount of cash at the right time is to create, maintain, and utilize a rolling 13-week cash flow forecast.
A rolling cash flow forecast helps the business owner anticipate future cash flows and positions, significantly reduces surprises, and gives you the opportunity to take action to improve the company’s future cash position.
Maximizing Cash Flow: The Role of Your Finance Team
While cash flow management is critical, it does not have to fall within the purview of the business owner. This is an area in which the finance department can add tremendous value to small and midsize businesses.
When it comes to cash flow, the bookkeeper/ staff accountant is on the front line of cashflow operations: following up on outstanding amounts due from clients and managing the priority and flow of payments to vendors.
The CFO, on the other hand, will focus on all aspects surrounding improving cash flow and optimizing the use of cash generated. Mike Dodson, a fractional CFO with over 40 years of financial and full P&L (profit & loss) experience in a wide range of markets, describes this well:
“A CFO will control the cash flow position of the company, understanding the sources and usages of cash and projecting the cash outlook for the company in a clear and concise manner.”
Managing cash flow will include looking at profit margins, policy and procedures for collections from customers and paying vendors, providing incentives to clients for paying sooner, credit policies to clients, etc.
The CFO is also on point for determining the optimal use for the cash generated. There are multiple "buckets" that cash can go into: the highest priority is typically for cash to go toward paying taxes and covering debt service. Once those obligations are covered, it’s a matter of prioritization: Should cash generated go towards the distribution of profits to the owners? Investments in growth for the business? Profit sharing with employees? A CFO can help you align your numbers with your strategy.
In essence, a fractional CFO can take the complex work of cash flow management and analysis off your plate, giving your business the financial stability it needs to achieve your most ambitious goals.
Remember, managing cash flow is not a one-time task, but an ongoing process vital to your business's health and longevity. By consistently monitoring and adjusting your strategies, you can ensure your business remains financially sound and positioned for success.
Download the free cash flow template to start managing your cash flow, or schedule a free consultation and discover how a Fractional CFO can help your business reach the next level with effective cash flow forecasting and management.
