Earning a profit while struggling to meet payroll and becoming skilled at dodging collection calls indicates a cash availability problem.
Improve your cash availability by implementing a cash management system to help you manage the timing and amount of cash flowing into and out of your business.
Overview
How can a business be profitable but cash-poor?
A small business can be profitable and be cash-poor when it has low cash availability. Cash availability represents the timing and amount of the cash flowing in and out of a business. It is also defined as the cash position for the business represented by the cash flowing into a business from paid sales with the cash flowing out representing the monies paid to cover the costs incurred through the operating activities of the business to produce and support those sales. The change in cash position or cash flow is measured by the difference in the amount of cash available at the beginning of a period, referred to as the opening balance, and the amount at the end of that period, the closing balance.
If the closing balance for a week or month of operations is higher than the opening balance, you had positive cash flow. If the beginning balance of cash was higher than the ending balance of cash, then you had a negative cash flow. Too many business owners fail to look at their bank account balance this way. They see profits reported on their P&L Statement yet don’t appreciate how much of their cash is tied up in Accounts Receivable. A business that pays out money faster than they collect it can be cash flow negative even though they are reporting profits. Those who don’t pay attention to their cash availability are proven to make less money.
Operating cash flow is increased by …
- Collecting the money owed to you faster,
- Selling more goods or services,
- Increasing the selling price, and
- Reducing costs.
For business leaders who have tried to improve operating cash flow and still have cash flow problems, the next tier for raising cash is to …
- Sell an asset,
- Bring in equity, or
- Take a loan.
If you still have cash flow problems, you need to take the “borrow from Peter to pay Paul” approach, which is to pay those you owe slower.
Yes, one measure of business success is the amount of cash you have in the bank. Unfortunately, the balance in your bank account is not necessarily a good measure of business success. Looking at only your cash position is insufficient since high levels of cash in the bank does not necessarily mean you are earning a profit. The same is true for profits. Just because your P&L Statement reports profits does not mean you will have corresponding positive cash flow.
To own a successful business, you must manage both cash and profits.