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The Importance of Cash Flow Planning for Small Businesses

The old adage is true, cash flow is the lifeblood of all businesses. Small business owners who manage their cash best, gain a clear competitive advantage in today’s marketplace. On this week’s episode of The Playbook, host Mark Collier, business consultant for the UGA Small Business Development Center, sits down with Dr. Eric Bonaparte, former Associate State Director for the University of Georgia SBDC. Today, Collier and Bonparte peel back the layers on one of the most important measures of business analytics, cash flow.

Transcription:

Mark Collier:
Welcome back into the playbook, Dr. B.

Dr. Eric Bonaparte:
Very glad to be here.

Mark Collier:
All right. Well look, first of all, Happy New Year as we here at the show taping today, embarking at a new year. And business owners, they’re thinking about cash flow, thinking about strategic planning. So I want to start with fundamentals. What is cash flow and why is it so critical to a small business?

Dr. Eric Bonaparte:
Yeah. Business owners should be thinking about cash flow in 2022, especially to start their new year. Cash flow is the simple thing about cash. Tangible dollars flowing and in and out of the business on a day to day basis. It is looking at how expenses are going to be paid. And with those expenses being paid, what cash is flowing in to pay those expenses?

Mark Collier:
Sure. I’ll tell you what, if many business owners are like me, we’re great at what we do on the business side, but in terms of the finances, most clients that I speak with, they’d rather get a root canal, then dive into that. So what is the difference between net income and cashflow? If you can share that with us?

Dr. Eric Bonaparte:
That’s a great question. Sometimes there’s confusion there because a business will have positive net income, but they’re doing terribly in terms of their cash flow. If you look at net income, net income is when you subtract your expenses from your revenue. And what a lot of people don’t realize is that revenue encompasses non cash accounts, like accounts receivable, money that you might receive further down the line, but you don’t receive right away.

Mark Collier:
I like the term might receive.

Dr. Eric Bonaparte:
Might receive, that’s correct. That’s absolutely correct. So somebody could have a positive net income, but negative cash flow. Cash flow is real, tangible dollars flowing in and out of the business. So when you pay those expenses, you’re paying it from money that you have not money that you might have. And so, the net income versus cash basically difference is cash, tangible cash.

Mark Collier:
All right. The old statistic is out there. Many businesses fail, a large percentage of them within the first five years, so for many different reasons. But how many businesses you think fail because of cashflow problems?

Dr. Eric Bonaparte:
Okay. Mark, don’t fall off your chair. This is alarming. 84%.

Mark Collier:
Wow.

Dr. Eric Bonaparte:
84%. And a lot of those failing causes is not really people are not going to say it’s a cash flow issue, but the root cause is cash flow. They might say that didn’t have inventory. They might say they didn’t have enough employees. They might say they didn’t have enough equipment. They might say they didn’t have enough cash to pay for marketing. All those are tied to hard cash. You got to have money to do all those things. So if a business has a cash flow problem, it’s going to lend itself to all those other reasons why businesses fail. But the root cause is lack of cash flow, positive cash flow.

Mark Collier:
All right. Well, that’s a great segway to my next question. Positive cash flow, is there a thing as negative cash flow?

Dr. Eric Bonaparte:
Absolutely. We all have lived in our personal lives where cash was tough. And we didn’t have money to pay the bills. So same as in a business. So a business, if they’re tracking their cash flow, they may have a certain amount of money to start and realize that the expenses for that month amounts to more than the cash that they have. Therein lies the negative. So they don’t have enough cash for their day to day operations, which is called their working capital. So it’s possible to be in the red in terms of cash flow, not enough cash to pay the bills.

Mark Collier:
All right. So businesses, obviously we’re talking strategic planning. So in terms of planning, what are the early signs that business owners can look for, that would kind of be indicative of the fact that they’re having some type of cash problem.

Dr. Eric Bonaparte:
Absolutely. Great question. One of the biggest things is having to wait to pay a bill. And having to wait to pay a bill means that they don’t want the check that they’re writing to bounce. So they’re risking paying late, because they’re just not enough funds there.

Mark Collier:
That could be another problem, because you start incurring late fees and interest, which further impacts your cash.

Dr. Eric Bonaparte:
Absolutely. Now business will have to pay much more than that payment was going to be because of those late fees and entries or whatever else that is charged. So yes, but that’s the first sign, typically, that there’s a cash flow problem, but you have to wait in order to pay a bill because you know there’s just not enough money there. There are other signs down the road, but the early sign is just not being able to pay bills on time.

Mark Collier:
Okay. Well that makes sense. Those are kind of the bad habits. What are some of the good cash flow habits that business owners can start to get into the habit of, of doing

Dr. Eric Bonaparte:
Absolutely. There are many of them, but some of the basics would be trying to plan earlier, as you said, strategic planning, does involve cash flow planning. So laying down the first 12 to 18 months or the next 12 to 18 months of a businesses’ activities. They want to plan for cash disbursements. So they want to look at the expenses in those expenses in those next 12 to 18 months. And they want to know where they’re getting their cash from probably. So they want to do a cash flow forecast.

Dr. Eric Bonaparte:
The other thing that they want to do is that if they’re an existing business and they have made sales, people are owing their money in some way. Yes. They want to collect on that. Right. As I said, previously, a lot of businesses go broke having record sales. Yeah. They’re making money, they’re making sales, but they’re not collecting on those. So a good habit would be to stay up on that cycle. People are very good at, as you say, doing their business, some are not as good as collecting on those sales that they’ve made or the work they’ve done. So one of the good habits would be to make sure that you’re up on collecting on money that’s owed you, your account’s receivable. And so that helps in making sure that the cash is into the business.

Mark Collier:
Now that makes perfect sense because as you said, with cash flow, if you’re not collecting it, I know I talked to a lot of clients and those are difficult conversations to have with their customers in terms of getting their receivables in. But it’s an important conversation and they’ve got to stay on top of those receivables before things sideways.

Dr. Eric Bonaparte:
Absolutely. A lot of times, its just like in personal life, if somebody owes you money and if you don’t collect in a certain amount of time, that money seems to go away and disappear. Same thing in business, your vendors, your customers, go out of business, they move, they forget to pay you. And so those are the same things that happen when you’re in business, and in personal life.

Mark Collier:
Makes sense. So you mentioned earlier about a cash flow forecast. So I kind of need some basics, what is a cash flow and how can a business owner begin to put one together?

Dr. Eric Bonaparte:
Absolutely. So one of the things that a business looks at is whether or not they are startup or they an existing business. And the reason why that’s important is because if it’s a startup, nothing has really happened yet. So they have to put down information that they think is going to happen, where they think they’re going to get their sales, what kind of expenses they think they’re going to have and what are the amounts of those expenses? An existing business has a track record. They have an idea of where sales are coming from. They have an idea of what expenses that they will face in the next 12 to 18 months. Initially what they want to do is to put those numbers in a spreadsheet, start with expenses, because those are the easiest things to do. Look at your fixed expenses, which are the expenses that stay the same every month.

Dr. Eric Bonaparte:
That could be office space lease. It could be a vehicle lease. And then your variable expenses, light bill, gas bill, whatever those things are. And you get an idea of what those are and place them as they come, try to forecast it. And you might want to look at how the reality is from what you forecast, to kind of make some adjustments. Some people look at cash flow analysis as massaging the numbers and not in a bad way. It means that if you think you’re a little bit off, then you kind of correct it as you go down.

Dr. Eric Bonaparte:
If your expenses a little higher than you think, then you adjust it as you go. But try to lay out all the expenses that you can possibly have, and then work on the sales or revenue part to see what the cash flowing into the business is going to be from the different revenue sources. And you lay it out for, some people do a shorter six months. Some people do 12 months, some people do 18 months. But what you’re trying to do is to get an idea of when you’ll be short in cash, by looking at your trend and preparing a strategy to face those shortages if they come.

Mark Collier:
No, that makes perfect sense. Forecasting out is important and you hit on another important topic along the continuum of that forecasting is to have those check-in points, where you can kind of make some tweaks or adjustments, if your cash flow projections aren’t flowing, as you thought they would.

Dr. Eric Bonaparte:
Absolutely. One of the things that you have to do, for example, if you are an existing business and you’re thinking of hiring a new salesperson, so that expense is going to be on your cash flow. But the potential revenue is also on your cash flow. So it’s a hit to your cash flow, but it also could be a positive hit in terms of the revenue that, that business will bring in. So if that happens later on in the year, that adjustment that you talked about, has to be made in terms of outlaying cash, but also your inlaying cash possible from that salesperson selling more product or service.

Mark Collier:
Okay. So let’s say I’m a small business owner, I’m kind of proceeding along the year and some cashflow issues start to hit me unexpectedly. What are some of the best strategies to kind of mitigate the adverse effect that, that cashflow issue is going to have on my business?

Dr. Eric Bonaparte:
Absolutely. And every business faces this, even large companies faces this and it doesn’t really get publicized in the news or anything. But one of the biggest ways to attack cash flow problems, is to look at your expenses. What expenses can you cut a little bit without diminishing the service or your delivery of the product. So, if there’s something happening that could be cut out that obviously will improve your cash flow. The other thing is that you want to boost your sales in any way. You want to get money infused into the business by boosting your sales. So you may have a sale on your products or services. You may do a referral program to get more money in. You may do some type of program as an incentive to boost the sales, start of the year sale or whatever else.

Dr. Eric Bonaparte:
So those are internal things that you can do. Some external things that you can do, especially if it’s a seasonal business, is you can try to get a line of credit, infuse cash from your bank or your financial source, to infuse some short term cash into the business to help you through the rough period. Some people get a loan to do that. One of the things that people have to be careful when they’re running their business is that cash doesn’t solve an internal problem.

Mark Collier:
That’s a very good point, Dr. B. Very good point.

Dr. Eric Bonaparte:
So you’re throwing money at a problem that you should be fixing and if you don’t fix it, you’re going to continually need cash to solve that problem. And so that can hurt in the long run.

Mark Collier:
That’s the old, the proverbial adage, you continue to put a bandaid on a wound instead of addressing the root cause of that wound.

Dr. Eric Bonaparte:
Absolutely. That’s correct. Absolutely. So addressing the root cause is important. So when you do a cash flow analysis, you’re also looking at what is causing cash flow issues? What is the root cause, as you said. And if you can do that, even if you do something to short term, take care of the cash flow prices, you are also working on strategy to take care of long term or repetitive cash flow problems as well.

Mark Collier:
So a business owner, let’s say he has a need for more access to cash. What are some of the avenues other than loans, strategies that a business owner can look at?

Dr. Eric Bonaparte:
Absolutely. One of the things that existing businesses fail to do is to look around their own operation. Businesses have to look at every asset they have, has to be returning something or doing something for the business. So anything from equipment, to furnishings, if they’re not being utilized properly, if they don’t have a function at the particular business, get rid of it. Sell it. Trade it or barter for other services coming into the business, so you don’t have that expense. If a business needs an extra truck or a truck that you have, and you’re not using it, maybe you can barter the value of that truck if they provide you with a service or sell it outright. Major companies do the same thing. If you have an airline company and you just saw that they sold 10 of their airplanes, it’s because they had airplanes that weren’t being utilized.

Dr. Eric Bonaparte:
So small businesses have to do the same thing. So whatever it is, whether it’s office space that they don’t have, and they can engage in a sublease of it in some kind, to bring cash in. Equipment, printers, whatever it is, get rid of it to infuse some cash into the business. But the number one thing that most businesses try to do though, is sales. They try to increase sales because an increase in sales, that brings revenue into the business. But again, Mark, one of the important things is that once the revenue comes in, you have to turn around and collect.

Mark Collier:
Yes you do.

Dr. Eric Bonaparte:
Right.

Mark Collier:
Yes you do.

Dr. Eric Bonaparte:
So you can have all the revenue and sales in the world and you can have a robust strategy to do that. But if you don’t have a robust strategy to collect the money, then you’re in the same ballgame.

Mark Collier:
Well, let me add one. Other than kind of asset downsizing, increasing sales, how about cutting cost too?

Dr. Eric Bonaparte:
Absolutely.

Mark Collier:
One of my recurring mantras to my clients is, look at cost cutting, cost savings, cost avoidance, because when you’re able to cut costs, that trickles right down to your bottom line.

Dr. Eric Bonaparte:
Absolutely. No, you hit it right on target. That’s one of the easiest things to do. I think small business people have to be mindful though, because a lot of times they will cut costs, but also, they are cutting on their overall operation in terms of maybe customer service, product delivery, how they take care of customers.

Mark Collier:
Or marketing.

Dr. Eric Bonaparte:
Or marketing, correct.

Mark Collier:
Should not do that.

Dr. Eric Bonaparte:
Exactly. So I think you’re right on target when looking at how to cut costs and why they should cut costs, but they have to be careful that it doesn’t cut out how they operate their business effectively and efficiently and what customers are used to. If customers are used to coming in and seeing a certain look from you in terms of the amount of cashiers you have, amount of delivery people you have, the amount of people servicing them when they come in. If that drops off, then you might have just lost the customer. So you cut costs, you’re cutting your customer service, you might lose customers as well. So it’s a careful balance with those, but yeah, that’s very, very important.

Mark Collier:
Cutting costs, but be careful on what types of costs you’re cutting.

Dr. Eric Bonaparte:
Absolutely.

Mark Collier:
All right.

Dr. Eric Bonaparte:
Absolutely.

Mark Collier:
Very important. So I’m going to ask one last question. How is a cash flow analysis different from a cash flow statement?

Dr. Eric Bonaparte:
Okay. Great question. Because a lot of times people are looking at cash statements and Mark, as you know, anything that has statement in the title, means it’s a snapshot in time, right? So somebody does a cash flow statement, an accountant does a cash flow statement for a business owner and they see what their ending cash balance is for today’s date, right? Six days from now it’s totally different. 10 days from now its totally different. So the difference in the cash flow statement is that it’s a snapshot in time and it could be deceptive if you’re not looking at the cash flow analysis or cash flow forecast, that shows day to day, how the cash is flowing in and out of the business.

Dr. Eric Bonaparte:
Because what will happen with a cash flow statement is that with the snapshot, you can kind of be tricked as to thinking that you either had less cash or more cash than you do. While a typical cash will show that flow in and out day to day, right? And so if something is happening today and the cash flow statement was done two weeks ago, you know, “Okay. I’m good with cash.” Or you know, “I’m not so good in cash and I have to do some strategy.”

Mark Collier:
All right. Dr. Eric, Bonaparte, I want to thank you for taking the time to come in today and just talking about a very important topic, cash flow.

Dr. Eric Bonaparte:
Absolutely.

Mark Collier:
Because it affects all businesses, no matter what size you are.

Dr. Eric Bonaparte:
Absolutely. And Mark, I just want to tell you and your viewers out there, cash is always king.

Mark Collier:
Absolutely.

Dr. Eric Bonaparte:
So cash flow is king too.

Mark Collier:
Very good. Thanks again for coming in, Dr. B.

Dr. Eric Bonaparte:
You’re welcome.


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