Cash Flow Analysis for Small Business Owners
Every business owner needs a cash flow analysis
Cash flow is essentially the movement of money in and out of your business. This cycle of cash inflows and outflows determines your business's solvency. Poor management of cash flow causes 82% of business failures, according to a study performed by Jessie Hagen of U.S. Bank. Proper monitoring of cash flow is critical.
Cash flow analysis is the study of the cycle of your business's cash inflows and outflows. Your goal is to maintain adequate cash flow for your business and provide the basis for cash flow management.
How is Cash Flow Analysis Performed?
Cash flow analysis involves examining the components of your business that affect cash flow, such as accounts receivable, inventory, accounts payable, and credit terms. You'll be able to more easily identify cash flow problems and find ways to improve your cash flow by performing a cash flow analysis on these separate components.
A quick and easy way to perform a cash flow analysis is to compare the total of your unpaid purchases against the total sales due at the end of each month. You'll have to spend more cash than you receive in the next month, indicating a potential cash flow problem, if the total unpaid purchases are greater than the total sales due.
You can also do a detailed cash budget for your business.
Examples of the Importance of Cash Flow Analysis
Cash flow analysis is particularly important for startup businesses, or businesses that are undergoing rapid expansion where increasing capital expenditures, higher labor costs, purchases of new equipment, and increased inventory require large cash outflows at the same time sales are in a growth phase and cash inflows tend to lag.
Keeping track of cash flow is also important for seasonal businesses, such as retailers who do most of their business at holiday times, and weather-dependent businesses, such as landscaping or construction enterprises.
Doing a cash flow analysis of your accounts receivables will show you which customers are slow payers.
Solving Cash Flow Problems
Sometimes cash flow issues are simply the result of poor bookkeeping practices. Many self-employed contractors are too busy with their day-to-day business activities to keep their books up to date. They also tend to fall behind on paying bills and invoicing, and/or collecting payment from customers.
An obvious remedy for many businesses is to use accounting software that can generate invoices, pay bills, and create cash flow statements and accounts receivable reports. Another option is to hire a bookkeeper.
Many small businesses use lines of credit or temporary loans when a cash flow problem is temporary rather than chronic.
Examples of Cash Flow Statements
Simple yearly, quarterly, and monthly cash flow statements and budgets can demonstrate existing or potential cash flow problems. A seasonal drop-off in revenue can result in negative cash flow, as demonstrated in the following statements for a fictitious landscaping business: