Managing your cashflow
This Managing your cashflow Info Guide explains the basics of cashflow management.
Cashflow is the movement of money in and out of your business.
Cashflow cycle
Cash flows into your business when you sell your products and services to your customers and collect money from them. Cash flows out of your business when you use cash to pay expenses and other outgoings:
This continuously repeated cycle of cash inflows and cash outflows determines your ability to have enough funds to pay all your expenses and keep your business running.
top
Positive cashflow
During each cashflow cycle the amount of cash coming into your business should ideally be greater than the amount of cash going out. To have a positive cashflow in the long-term, your cash inflows from customers and lenders need to exceed your cash outflows, such as employee salaries, and payments to suppliers and other creditors.
Negative cashflow
Your cash is usually tied up in debtors (customers who owe you money) and stocks (goods that you have bought but have not yet sold). There will be periods when your expenditure exceeds your income for a period, leading to negative cashflow.
Negative cashflow Example
- If your total unpaid purchases at the end of the month are greater than the total sales due, you’ll need to spend more cash than you receive in the next month. Meanwhile, you need cash to pay suppliers and payroll, and to make loan repayments, but you may experience a short-term cash shortfall.
- During cash outflow periods you need to carefully monitor and manage your cashflow, and be prepared to take corrective action, if necessary.
Remember!
Businesses more often fail from a lack of cashflow than from a lack of profits. Your business can survive for a short period without sales or profits but without cash it’s doomed – cashflow is the lifeblood of all businesses and the primary indicator of business health.
top
Cash
Cash is the actual money that flows in and out of your business bank account. Cash management is concerned with the timing of the cash received (not what is promised!) or paid out, including VAT, from trading transactions, such as sales and purchases, and non-trading transactions, such as loans and taxes.
Profit
Profit is concerned about when trading transactions, excluding VAT, are incurred but not necessarily paid. Profit is not concerned with when the income is actually received or when your suppliers are actually paid.
Profit excludes non-trading transactions
Timing
Cash as per your bank statement is not profit as per your Profit & Loss Account! Profit in any given period does not directly translate into cash that you can spend from your bank account or draw as your salary.
Your financial statements can show that your business is profitable while in reality the business may have little money in the bank and may have cashflow problems. This is because there may be a difference in timing between the making of a sale and actually receiving the cash from that sale.
Timing Example
- A business sells a product on credit to a customer. The money owed is recorded as an asset on the business’s balance sheet even though there is a three-month delay between the time the sale is recorded and the time that actual cash is received.
- In the meantime, cash is required to pay salaries and suppliers but a cashflow problem could potentially exist.
top