Nearly every small business will face a cash flow crunch at some point, when money flowing into your company is not enough to cover short-term payables. It can be triggered by any number of factors — seasonal business fluctuations, late-paying customers, or the loss of a key contract. While many people associate cash flow problems with declining sales, a crunch can even come through rapid growth, as companies need to pay for inventory or salaries while waiting for customer payments.
Regardless of the cause, a cash crunch has the potential to cripple a small business. But it doesn’t have to. You can get your business ready to weather a short-term crunch — and help ensure its long-term survival — by using the following methods:
The easiest way to reduce the impact of a cash flow crisis is to prepare for it before it hits. Small business owners need to monitor their companies’ finances constantly. Run financial forecasts at least quarterly, estimating sales and expenses, then modifying them as your receivables or payables change. Consider best-case, worst-case, and most-likely scenarios, using the budget that most closely resembles the current state of your finances. This may allow you to catch a cash flow dip and take actions to correct it before it becomes a full-fledged crisis.
Call in the reserves
Have back-up finances at your disposal to help you handle a cash flow crunch when it arrives. Many businesses use a revolving line of credit from a lender or bank, which makes short-term funds available on an as-needed basis. This allows a company to borrow money for a matter of days or weeks, and pay it back when promised receivables arrive. Other companies set aside funds in an interest-bearing “rainy-day” account that they can draw on in an emergency. In both cases, these reserves need to be set up before they’re needed.
Finance against your assets
It may be possible to locate short-term capital from a commercial finance company by securing a loan with certain kinds of assets. Accounts receivable financing allows you to use your billings as loan collateral. As you collect this income, you use the proceeds to repay the debt. Inventory financing uses your product inventory as collateral — the more salable or “merchantable” your inventory, the more likely a lender will accept it as security. While both of these financing methods can get your business over a cash-crunch hump, they do carry significant risk. Failure to repay the loan can result in the financier seizing receivables (potentially damaging client relationships) or inventory.
Extend your payments
Companies that have a track record for paying on time might want to consider negotiating with vendors to revise payment terms. If your company is prone to seasonal fluctuations, you can request an extended payment arrangement at the time of purchase. By building up a reliable payment history, you will be in a better position with your suppliers to make this request, since you will have proven to be a dependable, credible customer. To build a positive payment record, be sure to pay bills early or on time during cash-rich months.
Once your company has made it through a crunch and gotten more control over its cash flow, it is time to take steps to prevent it from happening again. Look for ways to build up reserves and put your business in a stronger financial position. Review expenses to plug cash-consuming, profit-reducing leaks. Attack the top cash drains mercilessly to cut operating costs. Review your pricing structure to ensure it provides enough profit, and examine your customer base to locate clients that pay promptly and find ways to encourage their business.