A Cash Flow Crash Course
When it comes to addressing cash flow and tips for improvement, perhaps the first place to start is understanding what cash flow consists of.
To complement the income statement and the balance sheet, there is a cash flow statement. This handy statement will provide you with a summary of the amount of cash entering and leaving your company. Likewise, it demonstrates how well your company generates cash to cover its obligations and expenses.
There are three main components to the cash flow statement.
- Cash from operating activities
- Cash from investing activities
- Cash from financing activities
Cash from operating activities stem from the sources and uses of cash from normal business activities, and reflects how much cash is generated from a company’s product and/or service. The sources and uses of cash from investing activities, moreover, come from changes in equipment, assets, and investments. Financing activities include the sources of cash from investors and banks, and the cash used to repurchase securities and pay dividends.
Listen to episode 240, “How to Tackle Your Business’s Cash Flow & Cost Optimization In The Era Of COVID-19,” featuring Jim Lichtenberg, a senior strategic partner at Schooley Mitchell, on this episode of Rea & Associates’ award-winning podcast, unsuitable on Rea Radio.
What Cash Flow Isn’t
Cash flow is not the same as net income and thus needs to be calculated. Net income includes items that are non-cash; differences in revenue, expenses, and credit transactions from one period to the next need to be adjusted. Additionally, there is a direct and indirect method in calculating cash flow. These methods, however, are beyond the scope of our topic.
It’s important to understand that even the most profitable companies can be cash poor and have cash flow problems. This can be experienced, for example, if debt obligations come due before a sufficient level of cash has been collected. Fortunately, there are numerous actions to take to prevent your company from experiencing a shortage of cash.
How To Improve Cash Flow
- Discounts – Offering customer discounts is an easy way to improve your company’s cash flow. But these aren’t the typical in-store or online discounts. Rather, these discounts are specifically designed for early payments. A common example is, 2 percent 10 / Net 30. In other words, 2 percent off the bill if paid within ten days, or normal terms if paid within 30 days.
- Credit Checks – This policy has the potential to indirectly improve your company’s cash flow. If a customer would like to pay on credit, be sure to run a credit check. If the report comes back less than favorable, consider that they may never have the means to pay their invoice. Instead, protect your own cash flow by turning these customers away.
- Bulk Purchases & Friendly Terms – Wholesalers will often provide consumers with bulk purchase discounts. Therefore, you may consider a bulk purchase if you are running low on inventory that you know sells. Plus, similar to you providing early payment discounts for your products and services, consider asking for an early payment discount from your supplier.
- High-Yield Savings Account – This type of savings account will provide your company liquidity while increasing your cash balance. Just make sure to read the terms & conditions to make sure the account is right for you.
- Electronic Payments – Utilize electronic payments so you can be sure to pay your bills on the actual day they are due. For example, if you are able to electronically schedule a payment that you usually make via mail, you are able to hold on to that cash a little longer than you would have if you had put it in the mail. In doing so, you can effectively free up some cash that can then be utilized elsewhere – like your high-yield savings account.
These suggestions are not all-inclusive and should not be treated as such. There are many other policies to enact and actions to take to improve your company’s cash flow. If you’re wondering where you can find help to improve your company’s cash flow, consider looking to the valuation and transaction advisory team at Rea & Associate for profit enhancement services. By bringing in the cash flow experts to help you assess the ins-and-outs of your business, you can discover the best cash flow solutions for your business.
If you, or someone you know, requires a business valuation for estate, gift, litigation, merger and acquisition, or business planning purposes, give me a call at 614.923.6569 or contact Rea & Associates to learn more.
By Duncan Copeland, valuation and transaction advisory services (Dublin office)