Are You Managing Cash Or Is Cash Managing You?

  1. 1. Is operating cash flow consistently positive?
  2. 2. Is operating cash flow topping profits?
  3. 3. Is operating cash flow growing quicker than profits?
  4. 1. Find The Cash Trap
  5. 2. Choose Your Tactic

Cash is king. You’ve probably heard it a million times before, so I won’t bore you with the details of this infamous slogan. Instead, I want to jump straight to the “who rules who” dynamic. A daunting question every business owner should be able to answer within a heartbeat. Are you the “king of the kings” who rules over cash? Or do you feel like a servant who is at the mercy of your bank balance?

Before you construe an answer in your head — I’m not only talking about the obvious symptoms, like struggling to pay an invoice, settling your tax bill, or working with a devastatingly low cash balance. Cash flow management isn’t just about making more than you spend or building a massive pile of cash. It’s also about managing your growth opportunites and reacting to abrupt challenges whenever they come around — with ease and without having to break your bank. Now, are you checking all those boxes?

There is only one way to find out. Put your cash flow under a microscope and dig for the 3 signs that set true cash flow leaders apart.

Why You Need To Rule Cash Flow

Easy. It’s almost a mathematical certainty, that unmanaged cash flow, will run your business to the ground. But hold up, one step back. Let’s start with what cash flow actually is. Cash flow is the misprized companion of profit that does a lot of the heavy lifting when it comes to keeping your company afloat. It’s the money that moves through your business at any given point in time. Sounds pretty intuitive, right? Well, it is, with one slight caveat. Cash flow increases or decreases result from three different areas:

  • Operating Activities: The core functions of the company, like getting paid by customers, or paying your suppliers, employees, and income taxes
  • Investment Activities: The purchase or sale of investment assets, like stocks, bonds, and equipment
  • Financing Activities: The influx and cost of capital from outside parties, like loans, investments, and interest

For this analysis, we’re only interested in the first — operating cash flow. It is one of the most important pieces of your cash flow statement because it determines whether you have what it takes to stay in business. If your company isn’t generating enough cash from its core, you’ll have to tap into the pockets of investors, banks, or well, yours. Otherwise, you won’t be in business for long.

3 Symptoms You’re Being Ruled By Cash

Whether you’re in control or not, depends on your answer to these 3 simple questions:

  • Is my operating cash flow consistently positive?
  • Is my operating cash flow topping profits?
  • Is my operating cash flow growing quicker than profits?

If you are reading this, answering “Yes, Yes, Yes” and laughing derisively at those questions, then this blog post might not be for you. You must be managing your operating cash flow like a boss! If not, don’t worry, we’ll get you there!

1. Is operating cash flow consistently positive?

With cash flow, you can be in one of two spots — positive or negative. You either have more money coming in than going out (positive) or more money going out than coming in (negative). Now, I don’t need to tell you what side you’ll want to be on.

If you’re operating cash flow is CONSISTENTLY negative, your alarm bells should be going off — you’re in trouble compadre! Most businesses have been or will be cash flow negative at some point, whether that’s because they are just starting out, have a seasonal sales cycle, or the economy is just not playing along. However, trouble sets in when you don’t get out of the red.

2. Is operating cash flow topping profits?

Now we’re bringing profits into the equation. The money you actually get to keep from your sales after all the expenses have been paid. Because profit (wrongfully) assumes that all your revenue and expenses are received and paid at the exact same point in time, it gives us a great benchmark for how well you are using and timing your cash in and outflows.

Check your operating cash flow. Check your profits. What is higher? If the answer is profit, your cash is tied up somewhere with inventory, customers, or suppliers. Not ideal, right? It’s sitting there and you can’t put it to good use.

3. Is operating cash flow growing quicker than profits?

This question might appear similar to the previous, but it unravels another sign of cash flow mastery. The growth rate tells you how well you’re managing operating cash flow over time — whether the distance between cash inflow and outflow is growing or shrinking.

If your profit is growing quicker than operating cash flow, it means that you are becoming less and less efficient because it’s taking you more and more time to recover the cash from your investments. Or in fancy finance terminology, your operating cycle is increasing.

It’s all about timing!

If you answered no to one, some, or all of the questions above, something isn’t going quite right. The reason is simple — your timing is off. What I’m hinting at here is the legendary cash conversion cycle. An equation that captures the time between spending money on crafting your stuff and getting the cash from selling it. For this article, I’ll simplify this finance equation:

Cash Conversion Cycle (in days) = The time it takes to sell your inventory (+) The time it takes customers to pay you (-) The time it takes you to pay your suppliers

Let’s add some more flavour with a visualized version:

With the basics under wraps, let’s figure out what could be going wrong and how you can change the tide.

1. Find The Cash Trap

To do that, you need to compare your operating cash flow to profits and look for negative differences in your:

  • Revenue: shows troubles with accounts receivable
  • Cost of goods sold: shows troubles with inventory
  • Other expenses: shows troubles with accounts payable

The following is a simplified example of that:

2. Choose Your Tactic

Now that you have identified where the cash is tied up, you can start brainstorming for options. Unfortunately, I can’t give you the ideal solution, but maybe I can get you thinking with these 3 examples:

  • Customers. Set a new payment standard with clients: ‘All my clients pay me 50% upfront before I do any kind of work. I can’t just change the rules for you, or everyone will want the same treatment. That really wouldn’t be sustainable for my business.’
  • Suppliers. Position longer payment terms as a mutual benefit: ‘I want to grow my business, but to make that happen, I need more time to pay my bills. If we can come to an agreement, I’ll also be able to buy more from you, which would benefit us both.’
  • Inventory. Only keep the minimum amount of inventory and position a shortage as a high-demand problem: ‘We are currently out of stock, but if you pre-order now, you’ll be the first to get it when it comes back in stock.’

As I said, the right tactic for you depends on a lot of different factors, so there won’t be a magical one-fits-all type of solution. You’ll have to let your creative juices flow!

Take Control Of Your Business Empire

If you want success, cash flow management is a process you’ll have to master. That means, getting your customers to pay quicker, managing your inventory levels to perfection, and taking your sweet time when paying suppliers (without paying late). If you get all that under wraps, your operating cash flow can be consistently positive and strong, giving you more financial freedom. On that note: ready, set, go, let the cash flow!