What does positive cash flow mean?
Positive cash flow is a very simple concept but a very important one in the eyes of most business owners. Positive cash flow means that there's more money coming into your business than is flowing out of it. Your cash flow equation is positive.
Negative cash flow is the opposite. More is going out than is flowing in, though that doesn't necessarily mean that a business is unsuccessful. Negative cash flows at certain times may result from seasonal downturns, or as start-up costs are paid off.
The important thing is to keep monitoring your finances to ensure that normal business operations over a period of time are cash flow positive, meaning you’re trading solvently.
What are the key elements of cash flow?
Your overall cash flow is made up of inflows and outflows. If your inflows are higher than your outflows, congratulations, your business has positive cash flow – suggesting it’s heading towards a net profit.
Examples of cash inflows:
- Income your business generates wherepayment is madeat the time of the sale, including by credit card.
- Accounts receivable where invoices have been paid.
- Interest received on any savings accounts and income from cash equivalents.
- Dividend payments received from investments (known as investing cash flow).
- Subsidies and government grants.
Examples of cash outflows:
Your outflow is the total sum of all costs incurred inrunning your business, including all the payments you make:
- Accounts payable to your suppliers and other creditors.
- Interest payments on a business loan (known as financing cash flow).
- General operating expenses and fixed costs such as rent, electricity, phone, internet, office supplies, advertising, accounting fees and maintenance.
- Periodic costs such as tax, GST, PAYG, super and insurance.
- Employee wages and salaries.
Tracking your inflows and outflows each month allows you to set up a cash budget, which we cover in Tip 2. Doing that tracking will be much simpler if you adopt Tip 1:
1. Use separate bank accounts for your business
Having abusiness bank accountthat's separate from your personal finances will help simplify the preparation of your cash flow statement each month, by keeping business and personal expenses well apart. A clearer view of your business inflows and outflows also helps you track performance and plan for tax time.
With Westpac for example, you can choose between a $0 monthly fee business account (Business One)and an added value business account(Business One Plus)that gives you access to exclusive discounts on popular business products and services. To simplify financial management and bookkeeping, you can connect your account to accounting software such as MYOB and Xero.
2. Set up a cash budget
Yourcash budgetis different from any profit and loss projections you have in your business plan. It should report on real cash flows – therefore it needs to be live and up to date.
Your cash flow budget should reflect, month-by-month, what the actual money movements are in your accounts. It needs to detail when you receivepaymentsfor your sales, and when you are planning to pay your own bills – remembering that a sale is not a sale until you collect the money. It should also seek to project your position in the future.
To estimate next year's cash flow, consider factors such as last year's profit and loss statement – and factor in forecasted costs and income such as large one-off sales, and the delivery of expensive capital and business needs, such as those required for growth. Plan for different outcomes, including best case versus worst case scenarios, and gauge what the effect on your cash might be.
You need to review this spreadsheet regularly. It will alert you to upcoming demands on your cash flow before they become an issue.
And as always, some expert guidance from your accountant can be really useful, to help get and keep your cash flow budget on track.
3. Get on top of debts quickly
Keep on top of monies due andremind your debtors to payif there are delays. If debtors are chronically late, you need to work out a way with them to recover your money – and you may wish to evaluate if you still want to keep doing business with them.Make sure you know your legal rights with respect to unpaid debts.
And if you're in the habit of paying your own bills early, you could consider simply paying them on time instead. It may also be worth reviewing your payment terms and renegotiating them, if necessary.
4. Avoid big expenses
It's often a good idea to start small and build up, keeping your assets and premises in line with the size of your business. Depending on what your accountant or financial adviser says, it may be better to avoid outlaying for big ticket items, which will tie up your capital for long periods. Also, consider the pros and cons ofleasing vehicles and equipmentrather than buying.
If you’re a manufacturer, knowing how much stock to produce is also a fine balancing act. A lost sale due to low or no stock could be lost forever. Selling excess stock at cut price on the other hand will help move it – but can also impact your margin and potentially your brand.
5. Value yourself
How much you charge for your goods and services and where you place yourself in the market can affect the ebb and flow of cash in your business.
Have a close look at yourpricing strategy. Are you pricing yourself so cheaply, and are your margins so tight, that you're chasing customers without much of a positive budget impact? Or are your prices so high that you’re losing business to competitors?
Consider if you’re in a mass market or niche market and research what the competition is doing. There's a lot to weigh up when pricing your goods and services.
6. Consider short-term finance
There may be times – such as during seasonal downturns or to help cover an unexpected expense – when it could be worth considering a finance solution.
Depending on your situation, a business overdraft could help cover cash shortfalls or, for longer term needs, you might consider a business loan. To avoid having to secure either option with property, you could also look at an unsecured business loan or unsecured business overdraft. Explore the costs and terms and conditions with your bank; and check in with your accountant to get a steer on what type of finance is suited to your business.
