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Understanding company cash flow, including problems, analysis, insolvency and negative cash flow

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Understanding company cash flow, including problems, analysis, insolvency and negative cash flow

Reviewed: 11th July 2016

Understanding your company cash flow will help you to avoid missed payments, and potentially serious issues with your creditors. Without sufficient cash available to pay the bills, your company could easily slip into insolvency and be forcibly closed down at some point.

Business cash flow analysis, and how to estimate working capital requirements, starts with easy access to the right information, and a good management information system is vital in this respect.

Many people believe that profit is more important than cash in business, but although making a profit is probably the reason why you set up your company, without the cash there is no business.

Why is cash flow important?

Every business needs cash to start up, operate and grow, and having ready access to working capital avoids the consequences of missed payments and creditor action. Good cash flow analysis is therefore vital, and helps you anticipate your cash needs. So what might these needs be?

Cash is required for long-term liabilities such as repaying loans, as well as day-to-day operational expenses - buying materials and paying staff, for example. If the supply of cash is limited, and you cannot pay your bills as they fall due, the company can easily slip into insolvency.

What cash flow problems might a business experience, and how do you manage them?

Credit sales

Cash flow problems can soon materialise if you offer credit terms to customers, without establishing an effective credit management policy. Ineffectiveness in collecting your own debts means that cash coming into the business is delayed, but the bills still need to be paid regardless.

This time delay between cash going out and coming into your business needs to be well-managed if you’re to avoid negative cash flow, a position which can quickly lead to insolvency.

A solid credit management policy that includes credit-checking new and existing customers, as well as clear credit control procedures, helps to avert these problems.

Loss of a key customer

Losing a significant customer can be a devastating blow for businesses with a small customer base, or one which relies on just one or two customers for most of its sales. If a customer suffers financial difficulties or goes under, a considerable proportion of your own cash inflow disappears.

Rather than operating with a single large contract, endeavour to set up the business with a number of customers. This will spread the risk of another company’s insolvency having disastrous knock-on effects to your own business.

Lack of management information

Directors have a duty to know and understand the financial position of their company at all times, and if you don’t have easy access to the figures, you won’t know how bad the cash situation is.

With good management information software you’ll have access to up-to-date information that allows you to estimate future cash needs. Sometimes a simple cash flow analysis is all you need to spot impending problems. You’ll also be able to see detailed sales and cash flow reports, and act quickly to avert a cash shortfall.

These are just a few of the most common causes of cash flow problems in business, and it’s clear that regularly analysing your cash needs is the best way to avoid cash flow problems.

It’s a vital part of managing the company’s solvency, and encourages a smooth-running business. But how do you actually measure cash flow, and forecast how much you will need?

How to build a cash flow forecast

Cash comes into your business via the sale of products and services, through investments, loans, and the sale of assets. It goes out when you make business purchases, loan repayments and via operational expenditures.

Forecasting cash flow over several months means incorporating all of these elements, and highlighting the company’s net cash flow at each stage so that you can predict where any shortfall might occur.

There are usually two columns in a cash flow forecast – one for the forecast figure; the other for the actual amount. Cash flow forecasting enables you to plan borrowing well in advance, keep the costs of borrowing down, and deal effectively with periods of uncertainty.

What are the best solutions to cash flow problems?

Knowing how to overcome cash flow problems reduces the chances of insolvency, and lets you act with confidence to avert any long-term problems. Many cash flow difficulties are the result of delayed cash coming into the business, so what increases cash flow?

Here are some practical suggestions that might help:

  • Set up an effective credit control procedure that is followed by all relevant staff. This begins with checking a customer’s credit-worthiness, setting a realistic level of credit, and sending a series of payment reminders and statements to collect what is owed.
  • Shorten the credit terms of existing customers so you can collect the money in sooner
  • Charge interest on late payments, and if appropriate claim back the costs of recovering debt
  • Increase sales and profitability
  • Manage stock levels so you’re not holding excessive amounts of inventory
  • Use factoring and invoice discounting to provide a cash injection, as well as help with your credit control
  • Consider other forms of borrowing, or leveraging business assets to extract their value in the form of cash

You could also request longer payment terms from your own suppliers, so the gap between cash inflow and outflow is shortened.

It’s wise to seek professional advice at an early stage if you’re experiencing financial difficulties. Insolvency practitioners can offer guidance at any stage of development, and often have contacts with various types of lender that offers fast access to cash.

Good cash flow management can significantly reduce the need for financing, and enhance your company’s reputation with suppliers and the wider community.

If you need help with your cash flow, Real Business Rescue offers professional, independent advice. We will provide guidance at an early stage to ensure you’re doing everything possible to manage the situation.

With 55 offices stretching from Inverness down to Exeter, Real Business Rescue can offer unparalleled director advice across the UK.


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