Cash flow and profits are both crucial aspects of a business. For a business to be successful in the long term, it needs to generate profits while also operating with positive cash flow.
Cash flow is the inflow and outflow of money from a business. It is necessary for daily operations, taxes, purchasing inventory, and paying employees and operating costs.
Positive cash flow indicates that a company's liquid assets are increasing. This enables it to settle debts, reinvest in its business, return money to shareholders, pay expenses, and provide a buffer against future financial challenges. Negative cash flow indicates that a company's liquid assets are decreasing.
Cash is king
There’s a reason the saying ‘cash is king’ exists. While your business can have a healthy profit on paper, cash is what you use to pay staff and buy materials for jobs. Having positive cash flow also provides protection against loan defaults or foreclosures and helps the business run even if sales are in a slump. Having cash on hand at all times is critical, but having good cash flow indicates the business’s ongoing ability to generate and use cash.
In order to achieve this profit in the first place, businesses must first align the timing of their cash used, with the timing of their cash received. That is, they need to shore up a steady cash flow.
Focusing on cash flow can highlight operational issues
Movements in cash flow can sometimes indicate operational, as opposed to sales-related, issues.
As an example, what may appear to be a quiet month revenue-wise might actually be a large number of clients neglecting to pay on time. Those same clients may all decide to pay at once in the following month, making it appear that revenue is back on track when in actual fact it’s just that your cash flow is out of balance.
In this case, these cash flow movements highlight a need to implement systems that ensure more steady payments from clients.
Growth becomes more manageable
Growth should be the Holy Grail for most business owners. Expanding your offering’s reach through investment in new locations, R&D, or new staff can all help to boost future profits. And if you are able to understand what your net cash position is, you will be better positioned to make more informed decisions to grow your business.
Decisions on factors such as staffing, office space, leases, and even business structure all become far clearer with a clear understanding of your business’s cash flow.
Debt becomes cheaper and easier to manage
Your business may be healthy, have a great profit margin, and your staff may be motivated and great at their jobs. But if you don’t have cash at the right time to pay your debts, you may be in trouble.
Debt obviously becomes more expensive if you’re unable to pay on time, with late fees and overdrafts adding up. This can also cause unnecessary stress for the business owner. But with steady cash flow a business manager can plan for debt repayments, and make better decisions regarding how much debt to take on.
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