Cash flow planning is critical to the growth and survival of your business, because if your business does not have the necessary cash on hand when it is needed, it will almost certainly have to close down, no matter how successful it is in other respects.
The first step towards taking control of and properly managing your cash flow is to analyse the components that affect the timing of your cash inflows and outflows. A thorough analysis of these components will reveal problem areas that lead to cash flow gaps in your business.
A budget provides you with a guide to the projected cash flow performance of your business. A realistic budget will help you predict cash flow gaps. These are periods when cash outflows exceed cash inflows.
The budget may also point out problem areas that create unnecessary shortfalls. The key to cash flow management is narrowing or even closing these gaps.
You also need to be aware that budgets are prepared with limited knowledge of future events, so there is no guarantee that the business will actually develop in the way the budget forecasts. However, despite such limitations, they are “compulsory” for any growing business.
Budgets are your most important management tool. By comparing budgets with actual performance, you have an early indication as to whether the business is performing better or worse than expected and so have time to take steps to deal with problems.
Budgets are traditionally set for the next 12 months, sometimes with quarterly projections for the next three to four years. The most important thing to do is to complete your cash flow budget for the next 12 months – that is, your expected income versus your expected expenditure, broken into time periods.
Experience shows that those business owners who take the time to plan next year’s cash flow, are always better off financially at the end of the year than those who don’t. It is important to realise, however, that budgets are not set in concrete.
If new opportunities arise, or market conditions change, you may have to revise the budget and this may occur several times a year. Budgets are a “snapshot” at one point in time – they should be revised on a regular basis.
Systems which should be put in place
The right accounting package will help you keep track of your finances and where you are with your budget. Computerised accounting also provides information in greater detail to help control your cash flow, and to keep accurate tabs on your debtors and creditors. You need to bear in mind, however, the information it provides is only as good as the information you enter into the program.
By now, you should have established procedures to ensure all transactions are accounted for. No matter how good your procedures are, you must still keep an eye out for errors.
Computers do not make arithmetical errors, but humans do make errors. If you assign a payment to the wrong ledger it stays there until you change it.
So, appropriate checks and balances are important, particularly as the business grows, you may lose that “hands on” capability you had when the business was first established.
An efficient business accounting system focuses on the sources and other details of both cash receipts and cash payments over a given period.
Your bookkeeping should be structured so that you can measure the viability of the business by comparing these five key performance indicators at least monthly:
- turnover (total revenue)
- debtors (what is owed to the business)
- creditors (what the business owes to others)
- stock value
- overdraft or cash in the bank.
All businesses should monitor the above indicators. When changes in these indicators start to turn from positive to negative, it is time to take action.