Let’s talk about expecting the unexpected and the importance of cash flow in business.
People struggle with all different types of income disruption. They can be caused by the loss of a major client, declining sales, your employee decides to become a fulltime yogi, or an economic crisis incurs from a pandemic. The lasting effects of unpredictable or catastrophic events show us how devastating it can be to suddenly lose income. It’s especially true if you don’t have a substantial amount of savings to get you through an emergency.
Beyond the crisis of losing a loved one or a volatile economy, there are lesser financial emergencies that happen all the time. For example, your car no longer wants to run, or your smartphone decides it wants to take a swim in your bathtub. Whether it’s a lifechanging event or a financial nuisance, unexpected expenses that can really throw you off your financial game.
However, it’s crucial that you never forget – the importance of protecting your money will always remain the same. This is why it’s so important you develop a financial cash flow strategy that’s on the money. We get it, saving money is really hard. Because no matter how much you feel like you’re scrimping with your business, it never feels like more than a few pitiful dollars in your bank account, right? Well, we hear you. Here is some much-needed assistance in the money-saving realm that will improve your financial health by getting you in the (cash) flow.
CASH IS KING (AND QUEEN, WE ARE INCLUSIVE HERE)
Read that again and say it louder for everyone sitting in the back.
CASH IS KING.
We’ve all heard this at one time or another, but what does it really mean? The need for a sound and strategic approach to cash flow in business has never been more critical. Do you know how long your business can stay afloat if all of your revenue is gone? Most small businesses don’t have a set financial analysis or methodology of how much cash they should be holding on to.
What’s even more alarming is that there are business owners out there who use credit cards to pay for everything except payroll and rent (more on that later). If you are one of those business owners who chose the credit card route to earn rewards, we need to have a conversation, stat!
Not having a set plan on managing cash flow in your business is incredibly risky. We’re all about the idea of you skydiving off a cliff, but not with your money in hand. The impact of economic downturns can be jarring to everyone, but business owners with a strategy for cash management are more than likely to have the reserves needed to make things easier. Let’s cash into this a little more.
At its core, cash flow is the total amount of money coming into a business and going out. Specifically, it affects liquidity or the assets of your company. Cash flow is a huge financial factor in your business’s long-term success. Everything in your money management could be going great like a significant income, optimal operations, a consistent customer base, or exceptional revenue. However, it’s possible to still lack positive cash flow. No matter how well your business may seem like it’s doing, bankruptcy can still be possible without a positive cash flow.
You may need cash for a variety of reasons, including those pesky unexpected expenses we discussed, the need for new infrastructure, hiring employees, equipment, taxes, and more. These things all make common sense, but it’s essential to understand that cash can also mean power.
Let’s give it some context, shall we? In recent years during economic downturns, tech titans such as Apple and Amazon have been hoarding cash instead of spending it. In 2017, Amazon decided to cash out and purchase Whole Foods. This put the grocery industry in a total panic, causing stocks to fall into a temporary whirlwind. Talk about making a (financial) statement! But Amazon knew people would always need groceries, so they took a strategic step and cashed in big time!
DOING THE NUMBERS ON CASH FLOW IN BUSINESS
Let’s get down to business on calculating cash flow in your business. At the most fundamental level, your cash flow is how much money you have left after your business has paid all of its expenses to operate. This can include anything from paying you and your employees, equipment, office space, coffee pods, label makers, and your annual holiday party. After everything is done and paid for, the cash you have leftover is cash flow. Now, this is usually where small business owners will make a significant financial faux pas. Instead of having a solid strategy on managing cash flow in their business, they end up spending it on unnecessary things or end up putting it towards debt that leaves them financially powerless.
Imagine this – Your company did great this last quarter and the thought of all those sales is really burning a hole in your pocket. You are so proud of your team’s hard, and you want to reward them for their success. Congrats on that! If you had a solid approach to cash flow, you’d be able to figure out how much you can “treat yourself” while not burning down your business with matching Rolex watches for everyone.
There are several ways you can calculate free cash flow in business, but no matter what method you use, they should all give you the same result. The most common way to calculate this is through a cash flow statement, which shows the flow of cash in and out of your business during a specific period of time.
The formula is:
Cash from operating activities +(-) Cash from investing activities +(-) Cash from financing activities + Beginning cash balance = Ending cash balance.
Did your eyes just glaze over there? Don’t worry, here is a breakdown of the above formula’s terminology.
- Operating activities – Cash generated or used to run your day-to-day business operations.
- Investing activities – Cash used for investing such as bonds, securities, equipment, fixed assets, and cash generated from their sales.
- Financial Activities – Cash from a loan or capital contributions by owners and payments made to reduce loan balances, distribution payments, or dividends to shareholders and owners.
Here is an IRL example of calculating cash flow in business from our favorite people at Company ABC. They had annual profits of $125,000 but only has $5,000 in the bank at the end of the year. We can use that formula to get a better idea of cash flow.
Company ABC’s cash from operating activities: $75,000 +(-)
Company ABC’s cash from investing activities: $45,000 +(-)
Company ABC’s cash from financing activities: $35,000 +(-)
Company ABC’s beginning cash balance: $10,000 +(-)
Company ABC’s ending cash balance: $5,000
|Income note yet paid by customers||($75,000)|
|Add expenses not yet paid to vendors||$25,000|
|Cash flow from operations||$75,000|
|Investment in equipment||($45,000)|
|Cash flow from investing||($45,000)|
|Cash flow from financing||($35,000)|
|Add beginning cash||$10,000|
Don’t worry if you still feel intimidated. I have easy-to-follow tips to make sure that you are in the (cash) flow. Read on to discover how you can begin to get your bank account ready for some serious money, honey.To go into more detail and explore other ways to calculate cash flow in business, visit our friends at Fundera. You’ll discover more about how Company A was profitable.
HOW TO NAMA-SLAY AND GET IN THE (CASH) FLOW
1. MONEY ON YOUR MIND
Be sure that your expenses are always at the forefront of your money management, specifically cash flow. When you are struggling financially, it’s essential to make the most of your money by keeping track of where it’s going. At the end of each week, evaluate your spending. Where can you cut down on spending money? Where is all of your money going? What are you spending on that’s not necessary? Did you remember to turn off the stove?
But seriously, whether we’re in an economic downturn or not, be sure you are periodically evaluating your expenses. It’s normal for small businesses to shift their spending needs every 4-6 months.
2. GIVE YOURSELF SOME CREDIT
We hit on this money note a little earlier, and the caveat here is being responsible. If you have access to lines of credit, use them as a safety net for the future. Going into debt in order to have more cash-on-hand is not the answer. However, you can use credit to finance business purchases (that word again), responsibly. In certain situations, credit can give you time to pay for expenses while allowing you to save or invest for more optimal returns. Be sure to watch out for hidden fees. High-interest rates and fees will force you to pay amounts that are above and beyond the initial price of your purchase. If you set up a business line of credit, do so when you are doing financially well.
3. MAKE MONEY WORK FOR YOU
As you continue to grow your business, you’ll need more money. If you are making enough to profit, even if it’s a little bit, but that aside. It’s always important to hope for the best but prepare for the worst. As you know, recessions can turn your business upside down. Having some money socked away can help tide you over until things turn around. Look into low-risk investments that can help you grow your wealth. It can be as simple as a high-interest savings account, money-market securities, bonds, etc. In time, you could definitely see a decent return. Who doesn’t like to sit back, relax, and watch their money grow?
Things can change very quickly, and none of us have a crystal ball that can tell us what’s going to happen (wait, do you?). So, what is one to do? Spoiler alert: Get in the cash flow. Without cash, companies can’t run at their full potential, especially during a recession. The more cash you have, the better you’ll be able to navigate a volatile market more successfully. With your cash reserve, you won’t feel as dependent on the market in case something happens to your company.
The bottom line is that managing your money on your own can be challenging. That’s why it’s imperative that you seek out the help of a professional. Enter: Alchemy Accounting. Do your future self a favor and reach out to us so we can help you get your cash flow a-go.
Our team has the expertise to make sure you’re allocating the right amount of money into each sector of your business, including cash-on-hand. Managing money is tough, so let us help you with that. Set up a complimentary call with us now. Your future self will thank you.