If you’ve been sleeping on cash flow management for your business, consider this your wakeup call: 82% of small businesses fail due to cash flow problems.
Cash flow refers to the money that flows in and out of a business, and businesses need to track these numbers to understand their liquidity, flexibility, and overall financial performance.
But cash flow problems are often at the root of other nagging problems within a business. Think of it like an infection: If left unchecked, it has the potential to spread, creating serious issues that can impact the long-term success or failure of your venture.
How do owners of small to midsize businesses avoid the fate of that 82%? First, it’s important to understand the wide-ranging impact of cash flow on a business. This will allow you to identify the root cause of the issues your business may experience, either now or in the future, and take appropriate action.
Cash Flow Problems Can be Hard to See
Most small to midsize business owners are familiar with the problem of working in the business rather than on it. (If this sounds like you, trust us when we say you are not alone.) From this ground-level vantage point, it is often difficult to see specific issues in the context of the business as a whole.
John Tate, a Cincinnati-based CFO, shared one such example in which a business missed out on an opportunity to make a strategic investment. In the moment, the decision came down to an overemphasis on current cash flow and an underemphasis on the short-term market conditions. By understanding that the current market conditions would be temporary and that the historical and forecasted trends were still strong, leadership could have seen the opportunity through the short-term fog and made a different – and potentially more profitable – decision. “The moral of the story,” Tate said, “review the numbers, respect the numbers, but don’t use the numbers as an excuse to ignore the underlying business reality and conditions within which the numbers exist."
Another key issue? Cash flow statements, a pivotal tool in actively managing the liquidity and financial health of a business, are often overshadowed by the business’s income statement and balance sheet – leaving business owners largely in the dark, said Rich Martorano, a Columbus-based CFO. “Flaws and concerns can be masked within a condensed income statement and balance sheet, whereas a cash flow statement, which showcases liquidity and the sources and uses of cash, can provide keen insight into how a business is operating.” By providing a clear view of incoming and outgoing cash flows, cash flow statements enable businesses to identify potential problems, make informed decisions, and proactively manage their financial resources.
Uncovering the Hidden Dangers
Now that we’ve covered the ‘why’, what issues may be signs or symptoms of a cash flow management problem?
Missed or Restricted Growth Opportunities
If a business does not have ample cash on hand, it will not be able to seize opportunities for growth as they arise. These opportunities could include hiring talent, expanding into new markets, developing new products, or investing in new technology.
Oftentimes, businesses encounter a situation that looks something like this: A growth opportunity arises, and the business owner begins to investigate it. Initially, there is excitement because the business is doing well, and it should be well-positioned for growth. But when the owner conducts a brief review of accounts, these numbers don’t align with their broader understanding of the business. They think the business is doing exceedingly well, and yet it cannot afford to take the next step.
This is often not a reflection of the financial performance of the business. Instead, it’s a cash flow management problem. The business owner needs to take a closer look at the inflows and outflows of cash to the business to understand what needs to happen to position it for greater liquidity and increase its ability to seize future growth opportunities.
Operational Disruptions
This often looks like delays in shipping orders, an inability to purchase necessary supplies, or reduced customer service. In extreme cases, it can lead to challenges in meeting payroll, which can affect employee satisfaction and retention over time.
In these cases, it can be easy to blame external factors and forces. For instance, the business is struggling to purchase supplies because prices have gone up. Another one we hear often: “Our bills aren’t being paid, so we can’t afford anything right now.”
In reality, the only thing a business can control is itself, and in this case, there is much to be gained from implementing a cash flow management strategy that works actively to safeguard the business from potential disruption.
Supplier/Vendor Management Challenges
Strong supplier relationships are vital to the success of many businesses. Cash flow management issues can strain those relationships, creating the potential for delays and disruption.
What does this look like in practice? A business may repeatedly miss deadlines and create a track record of late payments with its suppliers. Vendor relationships may decay as a result, forcing the business to go in search of new suppliers. A business may also find itself consistently overpaying for services, which also negatively affects cash flow.
An in-depth cash flow analysis can help businesses identify these pain points and take steps to mitigate them. For instance, an owner may be able to negotiate more favorable payment terms with a supplier or a reduction in fees. The owner may also discover alternative vendors for certain materials, which can generate significant savings for the business.
Reputational Damage
Many issues that stem from poor cash flow management can damage the reputation of a business and its owners. These include missed payments, unreliable service, and strained relationships with customers and suppliers. While it may be tempting to place the onus outside an organization, it is vital to look inward and understand how cash flow management challenges may have contributed to a poor reputation. After all, reputational damage can be very challenging to repair and can impact a business’s ability to land new contracts, attract new customers, hire top talent, and secure favorable investments or lending opportunities.
Stronger cash flow management can help owners mitigate these issues sooner rather than later and stop reputational damage before it starts.
Financial Instability (and, yes, potential business failure)
When a business experiences cash flow challenges, it may find itself leaning heavily into high-interest loans or lines of credit, which may solve an immediate problem but will likely create more financial issues in the long run. Owners may also find themselves overdrawing from their bank accounts and incurring substantial overdraft fees and penalties – costs that add up fast. Over time, these issues can erode the financial stability of a business, leading to bankruptcy.
Mastering Cash Flow: Practical Solutions to Protect Your Business
Cash flow management problems can be solved, and doing so very often improves the growth potential of a business. For many owners, however, it can be challenging to know where to start.
We recommend a 13-week Rolling Cash Flow Forecast. A 13-week rolling forecast is a dynamic tool that projects your cash inflows and outflows over the next three months. It's "rolling" because it's continuously updated, adding a new week as the current week ends. This provides a real-time snapshot of your cash position, enabling proactive decision-making. To get started, you can download the free template.
Another valuable option for designing a strong cash flow management strategy: Consider a fractional CFO. A fractional CFO is a part-time chief financial officer who becomes embedded in your business, helping you elevate your financial management and implement a comprehensive financial roadmap to achieve your long-term goals.
At FocusCFO, our network of fractional CFOs supports businesses across the country and across industries, and cash flow strategy is a core element of our work. We understand the risks and the value, and we work to ensure every business we serve is set up for success.
