Why Cash Flow is Important

Small businesses are finding it harder and harder to survive and grow in the business world of today, where new technologies can quickly change an entire industry.
why cash flow is important

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Cash flow is essential for any organization, but it’s much more crucial for SMEs with limited resources. Cash flow is the backbone of any business.

It is getting harder for small businesses to survive and prosper in the current business environment, where disruptive technological innovations can quickly transform an entire industry.

Size is less important than speed in today’s rapidly borderless and internationally interconnected ecosystem.

As the market becomes more competitive, small firms will find themselves swimming against the current in increasing measure. The firm that operates the fastest will most likely emerge as the winner.

Owners of any SME must maintain a close check on their cash flow in such a situation.

It should always be remembered that CASH FLOW is the lifeline of any business. A disruption in cash flow can be very dangerous for the business.

Issues like customers delaying payments combined with the need for the business to cover monthly overheads can eventually result in a negative cash flow condition.

A business can invest in development, enhance its goods and services, and hire better employees if it has a solid positive cash flow situation. This will increase the company’s ability to compete.

Local SMEs may apply for a business loan in Singapore if they require an immediate infusion of capital, either to seize unanticipated opportunities or to get through a brief cash flow crisis.

Cash Flow Statements

Most SME owners solely consider their Balance Sheet and Profit & Loss statements when evaluating the financial position or success of their business.

The Cash Flow Statement – a very significant paragraph that makes up the company’s financial report, is frequently ignored.

When assessing the cash flow figures for your business, you should always ask the following 2 crucial questions:

  • In comparison to the previous financial year, did my net cash flow from activities improve or decrease?
  • What did I buy with the funds? Were they spent on operations, investing, or obtaining financing?

You can determine the efficiency of your cash flow by answering the two questions above.

The difference between the net operating cash inflow and operating cash outflow, or the net cash flow from operations, is the net cash flow attributable to regular business operations.

According to the Profit and Loss Statement, net profit shows how profitable the company was during the relevant fiscal year.

It can be expressed simply as total business revenue less total costs and expenses.

You can determine the efficiency of your cash flow by answering the two questions above.

The difference between the net operating cash inflow and operating cash outflow, or the net cash flow from operations, is the net cash flow attributable to regular business operations.

According to the Profit and Loss Statement, net profit shows how profitable the company was during the relevant fiscal year.

It can be expressed simply as total business revenue less total costs and expenses.

Take note that total income includes revenue from both operations and investments, while total cost includes the c ost of products sold and other intangible costs like depreciation and amortization.

The comparison of operating net cash flows and net profits is a key indicator of the quality of profitability.

In a very simple situation, if a business only receives cash payments and all costs are also paid in cash, then its net profit will be equal to its operational cash net cash flow.

However, in practice, net operating cash flow and net profit will differ because of the following reasons:

Accrued Income or Debt Receivables

Think of it this way — The longer the credit term of your receivables, the more it is like giving your client an interest-free loan. 

The credit terms of your receivables should be seen as a cost to the business, as there is an opportunity cost to every single day that your money is not collected.

Non-cash Expenses

Asset depreciation and amortization are non-cash expenses incurred by a business.

Since charges like amortization do not have actual cash flow expenses, many businesses utilize EBITDA (earnings before interest, tax, depreciation & amortization) as a more accurate indicator of firm performance.

Cash Flow's Impact on Working Capital

Working capital is made up of prepayments and payments made ahead of time. First, the industry of a company is a big factor in whether or not it has a business model called “revenue pre-payment.”

For example, in the education industry, tuition fees are usually paid in advance before the service is given.

The education industry would have a positive cash flow because it can collect all of the tuition fees for a semester before it has to pay for things like rent and teacher salaries.

If a company’s operating cash flow is enough to cover its day-to-day operating costs, this means that the company can generate enough income to keep growing and developing.

If a business’s net profit growth is much higher than the growth of its operating net cash flow, it is important to understand how capital is used and how it gets money.

Even if a company is profitable on paper, it might run out of cash if it has long payment terms for receivables and slow inventory turnover and can’t get consistent financing or access to capital.

Receivables Management

The main concern of most companies is obviously to stay in business, and almost all of them are always looking for ways to make more money.

Receivables management, on the other hand, should be more important than just growth in top-line sales, especially for younger SMEs with less money.

What good is a high growth rate in sales if you have to constantly deal with collection problems to make enough cash flow?

How To Make Your Receivables Cycle Better

When running a business, it is smart to give priority to customers who are willing to pay cash for your goods or services instead of those who place large orders but want long credit terms.

This is especially true if you haven’t worked with the potential buyer before or if they are not a well-known name in the industry, like an MNC or a government agency.

A smart business owner would rather lose a deal than act like a banker by giving new customers too much credit.

When a customer uses your credit terms as a way to finance a purchase, they save the money they would have spent on business loan fees. Don’t let people use your credit terms as a way to borrow money with no interest.

In the end, how well you collect payments will have a direct effect on your cash flow. You can’t pay your rent or your salary with your sales figures or purchase orders.

The motto of all small businesses should be “cash is king.” If the company needs it, it could get short-term funding like factoring to improve its cash flow while waiting for receivables to be paid.

Business loans like the SME Working Capital Loan or the Temporary Bridging Loan could help close a short-term cash flow gap because they usually don’t have penalties for paying them back early.

You should also make sure that your sales and accounts department has clear rules for managing receivables and credit.

Receivables recovery is a tough job that no one likes and can’t be avoided. But it is important to deal with receivables quickly if a company wants to keep its cash flow healthy.

Always remember this… the longer a debt goes unpaid, the less likely it is that it will be paid in full.

Don’t let receivables that are already late sit around for too long or they might become delinquent.

Set up a standard way for your business to handle debts that haven’t been paid. When all other less intrusive ways of getting in touch with the debtor have failed, you might want to engage the services of a professional debt collector or go to court to get your money back.

There are also many other things that businesses can do to improve their cash flow.

Your company’s working capital cash flow will be much better if you put more emphasis on collections and receivables management than on growing revenue at all costs.

Conclusion

Keep a close eye on your cash flow at all times.

Offer small discounts to get people to pay you back faster. Don’t let your items pile up in your storage; move them around quickly. Demand a small percentage of the amount of sales as a deposit.

Whenever you can, try to set up your business so that it is good for cash flow. One example would be a restaurant or store that takes in cash every day but pays its bills once a month or longer.

This might not be possible for most businesses that sell to other businesses, especially those that sell to large businesses. But an entrepreneur’s creativity and resourcefulness can always be used to improve and change your business model.

Remember the golden rule of working capital at all times:

Profit is just an accounting term; it doesn’t pay the bills. Cash flow is what keeps your business going.

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