Ignoring Cash Flow Could Put You Out Of Business

Ignoring Cash Flow Could Put You Out of Business

Contributed by Idea Collective Member:

Barbara Fausett

Bookkeeper, Advisor, Money Coach

You’re in business because you’re a rock star at something the market needs - maybe you've got a great product or provide top quality service.

This is a great place to start for any small business but even the best can fail if they don’t carefully manage their money from the very beginning.

Most business owners are familiar with the Profit and Loss Statement (also called an Income Statement) – and they should be – but it’s just a small part of the financial picture and leaves out other ways that money flows in and out of your business.

Why The Income Statement Isn’t Enough

An Income statement measures your sales, expenses, and earnings for the period: Revenue minus Expenses = Net Income. It does not measure the cash that flows in and out of the company bank accounts.

Here are a few examples of what is not measured:

Sales made where cash will be collected later (accounts receivable)
Cash paid for goods that will be sold in the future
Cash paid for large purchases and expensed over time (capital expenditures)
Cash received from a bank loan
Cash paid to pay back a business loan
Cash received (contributed) from the owner
Cash paid (drawn) to the owner

As you can see from the example below, positive net income does not equal money in the bank.

Real Life Scenario

A business owner was rocking their sales (200K+) and paying themselves from the business. They were turned down for a personal home loan because their records did not provide an accurate picture of the business finances. The owner was a bit confused because “they made good money last year” but decided to contract bookkeeping services to clean things up so they could get a loan and buy their new home.

Books are up-to-date and in ship-shape condition, yay!

Now for the bad news, they may have been rocking their sales BUT:

They were spending too much money to operate the business (negative net income)
They weren’t collecting money from customers fast enough (high accounts receivable)
Monthly payments on a deferred loan start soon and they won’t have the funds to pay it
They’ve been paying themselves too much money (essentially, it’s being funded by the business loan they’re about to start paying back)

They now get the news that if they don’t right the ship quickly – they’ll be out of business soon. Yikes!

In this scenario, the records were just a small part of the problem. Cash was flowing in and out of the business in many ways and the owner had no visibility to it. That’s where the Statement of Cash Flows comes in.

Statement of Cash Flows (SOCF)

A business owners understanding of cash inflows and outflows is critical for making good business decisions and for meeting their obligations to employees, suppliers, and lenders – short-term and long-term. It’s used to make sure a company has enough cash to meet its day-to-day expenses and to project cash flows in the future. The Statement of Cash Flows provides this information.

For Example: It measures cash flowing in and out from:

Operating Activities: Buying and selling goods, providing services, etc.
Investing Activities: Purchase and sale of long-term assets.
Financing Activities: Company financing and repayment of loans, issuing and repurchase of stocks, dividend payments, owner contributions and distributions.

Becoming familiar with the ways cash flows in and out of your business could mean the difference between failure and success so taking the time to review and understand your Statement of Cash Flows is important. It looks confusing at first but in a short period of time, you’ll master this information and be able to quickly understand the full picture of what is happening with your money.

Check out this article from Investopedia for some more in-depth information.

Tips To Get You Started

Most accounting software programs include the Statement of Cash Flows (SOCF) OR you can create your own using a spreadsheet. Either works so here are a couple resources to get you started:

Spreadsheet: Here is a downloadable template from SCORE that is a great starting point. You can track actual results by month and input your projected numbers to gauge how long your cash will last.

Quickbooks: How to run a Statement of Cash Flows

Start reviewing the Statement of Cash Flows EVERY month just like you would your Income Statement.

If you’re using the SCORE spreadsheet, watch what happens to Available Cash as you make entries in each of the cells. You’ll realize very quickly how each action affects your cash.
If you’re using Quickbooks, click each line of the report to see the individual transactions and how they affect the balance for each activity. Note: Each activity line shows the changes to cash from the previous period.

Review with your bookkeeping professional and ask them to explain each section of the report. Then keep reviewing every month until it’s as familiar to you as your Income Statement.

Note: I’m not going to cover this here but be sure to ask your bookkeeper about the Balance Sheet as well.

Use a Cash Flow Projection Tool to input your actual numbers each month and your projected numbers for future months. The downloadable template provided by SCORE will work great for this.

Let's Do This!

Small steps lead to big changes so take a step toward mastering your money and improve your chances of success TODAY. Schedule time on your calendar to review the information, set up the tools, or contact your bookkeeper so you can be a rockstar with your money as well as your business.

If you need help along the way, the Idea Collective community is there to help.

Contributed by

Barbara Fausett

Bookkeeper, Advisor, Money Coach

Proven leader with experience in operations management, financial analysis, training, project management, acquisition integrations, and managing supplier relationships.