Reduce Cash Flow Volatility

By Randall Orser | Small Business

Remember, cash is king, right? Maintaining a smooth cash flow makes your company better, and, perhaps, less reliant on costly outside financing. If your business has an unstable cash flow, then it may have sizable disparities in earnings, and that may escalate the likelihood of default, which harmfully affects a company’s cost of capital. Your company will be of a greater value if it keeps an even cash flow over one that doesn’t. By implementing adequate cash flow management processes, you’ll reduce cash flow volatility.

Cash Flow Management

Neil C. Churchill, professor emeritus of entrepreneurship at INSEAD in Fontainebleau, France, says ‘a major risk for most entrepreneurs is inadequate cash flow management.’ Managing your cash flow requires managing your risk, and that means thorough budgeting. What is your long-term contingency plan? Are you setting aside reserve funds of at least three up to six months of your operating costs? You need to do these if you want to control your cash flow risk. Having the cash on hand allows you to continue operations should your cash flow hit a soft spot.

Diversify Your Customer Base

Are all your customers in one industry? Having all your customers in one industry could be devastating in an economic downturn in that industry, and it will affect your business as well. If the need for your customers’ products or services falls, then their need for yours will drop as well.
Work with multiple industries as much as you can. You can start in one industry become known for that one, however, branch out into other industries as soon as you can. Look at related industries to the one you’re in now.

One Client Does Not a Business Make

Are you trying to achieve your revenue goals with one big client? Having your sales come from one big client leaves you at risk that if you lost that contract (especially if you’re selling based on price alone), your business will die and you’ll have to close. You need to develop your client list, and grow sales to current clients to reduce your businesses exposure to the operations of another.
Admit it if you have just one client, or one huge client, you’ve just created a ‘job’.

Use Insurance to Tackle the Loss of Key Personnel

Do you have one or two key people in your business, including you? Does a positive cash flow rely on a corps of key people? Then having key person insurance is a definite yes. Key person insurance counteracts the potential risk of your business dropping if a key player in your business leaves, is injured and is not able to work, or dies.
That means calculating three major factors: the individual’s salary, the individual’s impact on the company’s bottom line, and the cost to replace him or her upon departure.

Your Business Plan Needs a Checkup Every So Often

You spent all that time coming up with a plan, then shoved it in the drawer and forgot about, didn’t you? Over time a business’s goals will change due to internal and external situation changes. For this reason, you need to occasionally review, and update your plan as needed. You’ll be able to adapt to situational changes as they occur and exploit the benefits of new possibilities and decrease the potential results of any new risks.

Reinvest Your Profits

By putting your profits back into the company, instead of paying it out to investors (or yourself), you’ll lighten the pressure on your cash flow. By reinvesting the profits your business could still be at risk (depends on your business plan), however, a bigger risk would be not enough cash to run your business.
Many business owners make the mistake of taking out all the funds from the company, then end up loaning it back later as cash was short, and the business needed it. Or, ended up financing what could have been purchased outright.

Make Your Payments as Low as Possible

Your business’ credit rating can be damaged by making payments late, even just a few days. Whenever negotiating with suppliers try for the lowest arranged payment possible, this reduces your risk. This ensures you can make payments on time all the time; even when cash flows dips suddenly. You also free up cash for paying your variable expenses with lower payments.

All Contracts Must be in Writing

Always get contracts, proposals, business transactions and agreements in writing. With written documents, you have a chance to read and assess the terms, notices, and other critical documents. Therefore, the chance of a failure in communication is less than if it was a verbal agreement. By having these records in writing, you reduce cash flow risk as you can design your budget and cash flow needs more precisely.
Taking advantage of new business opportunities, and decreasing risk, is more art than science. And, not one you can perfect either. However, the above steps are more likely to help you achieve your business goals. And, by doing these steps you lessen your businesses cash flow unpredictability.

About the Author

Bookkeeper Extraordinaire
Number Crunchers® Financial Services

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