In a recent meeting of Vistage Chairs, the conversation turned to cash flow.
We agreed that the economy has bottomed out and is beginning to grow.
However, most small businesses continue to be challenged with cash flow issues. Customers are paying more slowly, while vendors are more aggressive in collecting receivables.
What to do
1. Measure your Days Receivable and Days Payable
You can’t manage what you haven’t measured.
(An Excel spreadsheet with the formulae for these and other Basic Financial Ratios is available at no cost here on the site at http://www.pinnacleceo.com/resources-downloads/basic-financial-ratios.)
2. Understand the relationship between these two metrics – and determine if yours are in the right relationship.
Do everything you possibly can to make certain that Days Payable is greater than Days Receivable.
When they’re not, you’re paying your vendors in a shorter time frame than your customers are paying you. And that means you’re floating a loan for the days in between – and you’ve increased your cost of doing business by, at minimum, the interest rate on your line of credit.
3. Test the boundaries – and send reminders
Whatever your terms are, be sure you’re sending a notice out three days prior to remind each Account Receivable.
Follow it up every three to five days until you’ve collected payment.
Are you doing this? And if so, are you doing it automatically – or manually?
If you’re not currently doing it, or if you’re doing it manually, you may want to explore the material available at Trans World Systems. I know the local San Diego representative, and I can personally vouch for her performance.
4. Test the limits – of your vendors and your customers
If your payable terms are net 30 days, test to see which of your vendors call when you don’t pay for 40, 50, or even 60 days. Are they a critical vendor?
Which accounts pay early, and which pay on time or late? What can you do to motivate them to pay early?
Note that by “motivate,” I don’t mean discounting. Discounts bring a host of other considerations – and a fair amount of downside. (I’ll discuss discounts in a future post.)
The best sources of cash in your business are Accounts Payable, Accounts Receivable, and inventory. By actively managing all three, you can add tremendously to cash on hand and cash flow.
Now more than ever, cash is king!