“I have pledged… to always run Berkshire with more than ample cash… I will not trade even a night’s sleep for the chance of extra profits.” –Warren Buffett.
This quote from the Oracle of Omaha sums up his position on working capital and cash flow for Berkshire Hathaway. If you want to mirror any of Buffett’s success, you too need ample capital to run your business. How do you know if your cash flow is healthy or not? Watch for these signs—they signify immediate or imminent cash flow problems.
1. Negative cash flow
Negative cash flow is a key sign of dissonance and, ultimately, a negative cash flow is unsustainable. To figure out how long you can afford to have a negative relationship between revenues and expenses without shuttering your business, divide the amount of credit or reserves you have available by your monthly negative cash flow.
For example, if you’re bleeding $5,000 per month and only have $20,000 in reserve, you need to cultivate a plan to reverse this trend in the next four months. The remedy for this cash-flow issue varies based on your objectives and may include small business loans, new marketing campaigns, reductions in expenses or a combination of these and other tactics.
2. Missing discounts on accounts payable
In some cases, B2B vendors offer discounts when you pay your bills early or upon delivery. If you are not able to take advantage of those discounts, you are essentially throwing away cash. Missing discounts on your accounts payable is often a sign of cash flow issues, however in some cases it may simply be a case of financial mismanagement.
If you are missing discounts simply because you don’t take the time to sit down and address your accounts payable in a timely fashion, it may be time to delegate the task to another employee or even a third-party financial consultant. However, if the issue simply stems from not having enough funds in your account to write checks, your business has a cash flow problem.
3. Excessive juggling
As a business owner, you should have ample cash on hand to cover your basic operating expenses—such as payroll and utilities. If you’re always metaphorically borrowing from Peter to pay Paul, it may be time to reassess your cash flow. The excessive juggling of bills can be stressful at best and debilitating at worst.
4. Waiting for a windfall
Do you find yourself hoping and waiting for that one client who tends to buy a lot? Are you counting down the days until you’re likely to receive a windfall? Running a business requires consistent and continuous cash flow. If you’re waiting for large checks to come in so you can cover operating expenses, you need to focus on creating a steady revenue-stream so that your business doesn’t collapse as you wait for a big payout.
5. Excessive short-term debt
Short-term debt includes your current liabilities for long-term loans and, in particular, it refers to any debt repayments you must make in the next 12 months. If you have an excessive amount of short-term debt without enough revenue to cover the payments and no plan to increase revenue in the foreseeable future, you’re overextended. This situation may be remedied with a consolidation loan or by restructuring debts to access lower interest rates.
Selling a lot of inventory seems like a positive thing, but, unfortunately, even this boon can be disastrous in some cases. Namely, if your sales are growing faster than your ability to finance them, that can be a harbinger of cash flow issues on the horizon.
When a business over-trades or churns, it risks ending up with a stack of accounts payables it cannot repay as well as accounts receivables that are not being paid. This culminates in a lack of working capital. Ideally, while you want high sales, growth needs to be financially sustainable. If you don’t have cash to cover the cost of your growth immediately, have a plan in place to finance it.
7. Increasing accounts receivable turnover rates
Another sign that cash flow issues may be imminent is increasing accounts receivables turnover rates. If you have net 30 accounts receivables, meaning your clients pay within 30 days, but the bills seem to be sitting there for longer and longer periods of time without being paid, that can seriously crimp your cash flow.
Figure out what’s happening. Why are your net 30 accounts transitioning into net 60 or even worse net 90 accounts? Why are clients no longer prioritizing your bills? Do you need to vet your clients better, boost your collection attempts, demand cash at the time of service? If slow payors are your problem, here are a few things you can do about it.
Without a healthy flow of cash into your business, cash ultimately won’t be able to flow out of your business, and your growth will be stymied. Know the signs of current and imminent cash flow problems and be creative about boosting your cash flow. In some cases, taking out loans or downsizing staff may be key. In other cases, cutting expenses or revisiting your sales and marketing strategy may be in order. First, however, you simply need to be aware of whether or not your cash flow is healthy.
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