My business is making a profit but we don’t have money!

As a small and medium sized business owner you will at some stage run into cash flow challenges. Be that in your personal capacity or that of the business. For now, we will focus on the business and in a later post we will deal with the need in your personal capacity.

Your business will run into cash flow constraints for various reasons, as the owner and the captain at the helm of the ship it is expected of you to understand why the business finds itself in this position, what can be done to prevent it from happening again and how are you going to manage the challenge until cashflow returns to “normal”.

How do you find out why the business is running out of cash to early?

As the business owner and ultimate holder of responsibility it is expected of you to have a solid grip on the financial performance of your business. That means not only should you know what the current value of outstanding debtors and creditors are, but as well as how good they are repaying you and if you are within terms with your creditors. You should know if you are making money – please note that profits don’t necessarily mean money. You can show a healthy profit but never have surplus cash in the bank to pay dividends or bonuses. The reasons to find yourself in such a position are endless. We are of the opinion that the cash flow statement as part of your monthly management accounts is as important as the income statement and balance sheet.

Without a cash flow statement you virtually have no clear picture on how the business is applying the cash it generates, you won’t be able to know if the business generates any cash or not.

Yes it is great to have a clear picture of the income generated by your venture in the last month and the expenses incurred, however if the majority of your income is on terms and your overheads are not – you will burn cash at an alarming rate and quickly find yourself in a position scurrying for cash just to keep the lights on.

The first step to diagnose why you are always running low on cash is to draw-up a cashflow statement. A cashflow statement can be broken up into the following three sections:

  1. Net Cash Flows from Operating Activities

  2. Net Cash Flows from Investing Activities

  3. Net Cash Flows from Financing Activities

Net Cash Flows from Operating Activities.

This will immediately highlight where you are spending to much cash and where you should focus your attention. Ideally you would like to generate a cash inflow from operating activities. There will be months where you will note an outflow of cash form operating activities, this will generally occur in months where you pay ad-hoc large expenses which does not form part of normal day to expenses.

Negative changes to working capital will also have an impact on your cash form operating activities, as soon as you experience a decline in the repayment rate of debtors it will immediately show up as a cash drag in operating activity cashflow.

Net Cash Flows from Investing Activities.

In this section you should see a summary of the activities by your business investing in different asset classes. If you are generating a cash inflow from operating activities, you would have surplus funds available to either invest in the expansion of infrastructure or the settlement of debt.

Net Cash Flows from Financing Activities.

In order for you to honor your cash commitments in your business you would need to have access to liquid funds. The business would either be generating cash and you will be able to settle commitments with those funds or you would require funds from

third parties or shareholders to keep the business afloat.

What can be done to prevent it from happening again?

Hopefully the above will give you an idea of what kind of role a cash flow statement can play in the management of your business. You will be able to use the cash flow statement to guide you on where the issues might be. As mentioned earlier the reasons of why you are always running low on cash are vast, however the cash flow statement should be able to guide you.

Chances are that the issue is locate in the operating activities of the business. Either in the chances in working capital or in the operating profit before working capital changes.

As soon as the problem has been diagnosed the solution there of is usually very simple.

How are you going to manage the challenge until cashflow returns to “normal”?

All this being said, the show has to go on – while you are trying to locate the source of the cash leak, you will need to keep the operations going. That is where you will find the need for a bank overdraft or bridging finance. Any financier would want to have a clear picture of the current position of the business, that is why the require a balance sheet. They would want to assess the ability of the business to generate profits, therefor the income statement and they would want to see a cash flow statement in order to vet the risk of business’ ability to generate cash.

One other tool which has amazing management power and goes along way in managing the health of your business is a cashflow forecast, much as you would have budgeted income statement and balance sheet in order to guide the business in the future. Those documents serve as the basis to the cash flow forecast. Any financier would want to see if the business has a plan to repay the debt of how are seeing this going forward.

Five Oaks Consult has extensive experience in assisting businesses to manage and diagnose cash flow challenges. Please get in touch if you require additional information.