Small Business Taxes & Management

Special Report

Cash Flow Budget-Part II


Small Business Taxes & ManagementTM--Copyright 2012, A/N Group, Inc.


In Cash Flow Budget--Part I we discussed the basics of cash flow budgeting. In this part we'll continue our discussion and give you some tips to improve cash flow.

Think about the numbers. The first point to keep in mind is that getting to the number is just, if not more important, than the number itself. That is, you should be thinking about the numbers you enter. While you shouldn't be as concerned with smaller numbers (office supplies) and those that you can't change in the short term (rent), you should question expenses or income that are increasing (or decreasing) faster than anticipated. Or you may quickly find out that collections on accounts receivable have been deteriorating.

Income taxes. They're an important part of your cash flow projections. But, if you do business as a sole proprietorship, LLC, partnership, or S corporation, they're not imposed on the business but on the owners. That means you'll have to account for them either by putting them in your cash flow projections or by doing a personal cash flow projection. (See below.)

Personal cash flow. While we're talking about projecting cash flow from your business, for most small business owners their personal cash flow and business cash flow are intermingled. If your house needs a new roof chances are the money will either come from the business or borrowing. Either way, your business could be affected. And if you just won $5 million in the state lottery, your business cash flow problems should ease. Unless you're sitting on a personal cash hoard, or there are some other reasons that you don't have to worry about your personal finances, you should do at least a rough personal cash flow budget.

Use a computer for bookkeeping. Unless you have just a few clients and your expenses are limited (e.g., a one man consulting business) use a computer and accounting software to do your bookkeeping. And don't take shortcuts. If you enter your data accurately and make use of the features, you'll know instantly how much you owe and how much you're owed. You won't miss taking an early payment discount or risk a late fee. Nor will you let a customer go much beyond the due date before taking action.

Outside bookkeepers. If you have your bookkeeping done by an outside service (or you're doing it in house but only once a week), copy checks received and give the bookkeeper the copy and deposit the original immediately.

Check your bank account. Have on-line access to your account(s) and check it frequently. You'll quickly spot bounced checks, electronic debits and credits, etc. If a customer bounces a check that's a danger sign and you want to find out about it immediately. Monitoring your bank account will also alert you to other problems.

Margins. If your gross margins are high you can afford some cash flow techniques that a business with small margins can't. For example, if your margins are 40%, taking a credit card and losing a couple of points won't hurt much. The tradeoff for getting paid quicker will probably be worth it. On the other hand, if your margins are 10%, that same approach is going to be costly.


Cash Flow Tips

Bill quickly. Sounds obvious, but many small businesses are lax in their billing. If you use an outside bookkeeper, consider training someone to do the billing in house. Make it a policy to bill on shipment or job completion. If the order consists of several shipments or the job extends over more time, bill at milestones. If possible, get an upfront payment.

Follow up on late payers. If you don't establish a policy of calling late payers your customers will take advantage of you. State the policy in your invoices and let them know they can't take liberties. The squeaky wheel gets the grease--make sure you're the squeaky wheel. While any customer can be a slow pay, sometimes large customers are the worst offenders.

Credit policy. Bad debts can be fatal for a small business. The smaller your margins, the more it will hurt. Don't let any account get too large. If a customer is getting behind, ask for at least partial payment before shipping additional goods. If the amount involved is significant, get credit reports and trade and bank references on new customers and check periodically on existing customers.

Lease or rent instead of buying. Like many other techniques, you can't make a decision in a vacuum. While leasing will conserve cash, particularly if you'll have trouble getting financing, the cost of leasing is often more than buying. Leasing makes the most sense for real estate; much less sense for equipment that's essential to the business or where the implicit interest costs are high.

Ship and complete jobs quickly. The quicker the job is done, the quicker you can bill and get paid. Make sure you take into account potential bottlenecks in your planning. That makes sense for business reasons as well as for cash flow purposes. Sometimes 95% of the job is complete and the remainder will be held up. Make sure you can bill for most of the work that's completed. On large orders or projects it may make sense to incur extra costs to expedite completion or ship a faster way.

Avoid disputes. There's nothing like having the customer hold back payment because you shipped the wrong part or shorted the order. A little extra time in checking purchase orders, picking the right items, completing the job correctly, etc. can mean you'll get paid quicker. The bigger the job, the more important it is. You could still get a customer who finds fault, but you should keep it to a minimum. The same goes for billing. Avoid errors that will hold up payment.

Bill the right party. Make sure you have the right billing address. Not much of a problem if you're selling to a small company, but it could be a major issue for a big company. If you've been dealing with a particular party that controls approval, make sure he'll approve the invoice. For example, you did a small construction project for a major shopping center owner. Talk to the party you've been dealing with to insure he'll approve it. If the invoice gets lost in the system you could be waiting months for payment.

Offer discounts for early payment. This will cost you, but if you've really got a continuing cash flow problem (e.g., business is growing rapidly), it may be worth it. Make sure customers don't take the discount and pay late. See our article Vendor Discounts for Early Payment.

Delay capital expenditures. Not the critical ones, but discretionary items. Keep the three-year old car another year or two. Repair instead of replacing that truck. Need to increase capacity? If the numbers work, don't hesitate to make the buy.

Don't pay invoices until the last possible day. You don't want to be late, but, unless there's a discount for early payment, you don't want to be early. If there's a discount, should you take it? See our article Vendor Discounts for Early Payment.

Pay electronically. Paying electronically will allow you to delay payment till the last day. It can also save the costs of cutting and mailing checks.

Avoid paying late. That's true even for the smallest items. Being late on a $75 shipping bill can look as bad on your record as a much larger invoice. Getting a poor credit could mean suppliers will want payment on delivery rather than 30 days. That can seriously affect cash flow. Consider putting smaller items on automatic pay through your bank account or business credit card.

Lease don't buy. Having bragging rights to ownership of your building can be nice, but putting down 20 to 30% of the purchase price can impact cash flow. The same is true for autos and equipment. On the other hand, renting or doing a lease-purchase of smaller equipment can be costly. As a rule of thumb, if you're conserving cash renting space makes more sense than buying, leasing makes sense for autos. Equipment depends on the implicit interest rate. Talk to your accountant.

Outsource. Instead of buying equipment to do the job in house, outsource. For example, you could purchase a new machine to manufacture a part or have another shop make it. While doing it in house may be nicely profitable, it would entail the cost of a new machine for $75,000. Outsource now and reconsider when you're in a better cash position.

Use a payroll service. Being even a day late on employment tax deposits can be costly. But depositing too early will affect cash flow. Using a payroll service can avoid these problems.

Pay electronically. You're usually credited for payment on the day you initiate the transaction, but the money may not be taken from your account for several days.

Pay employees less frequently. If you can, pay employees bi-weekly or semimonthly instead of weekly. Not only will it improve cash flow but it'll lower payroll processing costs.

Deferred compensation. Consider paying some management employees using a deferred compensation plan, or with equity (stock). You'll be limited to higher paid employees, but that's where the savings are.

Curb advances. Don't advance employees money for trips, pay only when you receive an expense report. If airfare or similar charges are significant, pay them directly with a company card. If you must give advances, demand expense reports as quickly as possible with a return of any excess advances.

Sell old equipment. Unless you have a good reason for keeping it, sell old equipment. Keep in mind that you could end up with a tax bill if the equipment is full depreciated. On the other hand, if the equipment hasn't been fully depreciated for tax purposes, you could get a writeoff and save some taxes. Either way you should generate some cash.

Monitor inventory carefully. Lock up as little cash in inventory as possible. Tracking inventory and sales with a good software program should help reduce inventory. Consider dropping slower moving lines and products.

Sell excess inventory. If it's not moving, consider disposing of it online, auction, etc. Selling at a loss will also allow you to take a tax writeoff which will generate additional cash.

Estimated tax payments. Your accountant will probably base your current year's estimated tax payments on last year's liability since that's foolproof and easy. But if the current year's income is below last year's, basing your estimated tax payments on your current year's income will result in lower estimates.

Net operating losses. If the business has a loss you way be able to carry back the loss to an earlier year and get a tax refund. Or you might decide to carry the loss forward. Check with your tax adviser on the details.
Sell receivables to a factor. It'll generate immediate cash and can relieve accounting headaches, but it's often not cheap. This is another time when you want to look at your margins.

Take credit cards and EFT payments. You'll get paid faster, but there's a charge with credit cards. Consider some of the new technology for cell phones. Aggressively try to convert larger customers to EFT payments. At a minimum you won't hear "the check is in the mail".

Tighten up payment terms. Is your payment policy more liberal than your competitors? Can you reduce the time to pay? It's tough to buck the industry, but you may be able to do so if you've got a unique or better product or service. Consider offering something cheap in return.

Commissions paid on payment. Base commissions on collected sales, not booked ones. It'll give the salesman some incentive to help collect accounts receivable and reduce sales to slow or nonpaying customers.

Prepaid expenses. Paying vendors early often makes sense. That's not so true of paying a full year of insurance at once. First, the discount (or penalty for paying a half-year at a time) may be small. Second, you may not get any tax benefits until the additional portion is due.
Do it quickly. If you're going to raise prices because of increased costs, do it as soon as possible. (You have to consider whether or not you can increase prices.)

Ask for longer payment terms. You may not be able to negotiate a lower price from your vendors, but you may be able to get longer payment terms, or an early pay discount. Be careful how you ask. You don't want them to think you've got a cash flow problem or are in danger of going bankrupt. You'll be on safer ground if you ask for a discount (or a larger one) for early payment.

Cut costs. Cutting unnecessary costs not only improves cash flow, it improves the bottom line. It may not be easy, but it's worth the effort. Look in all corners, but concentrate on recurring items such as

Defer distributions. The reason many small businesses have cash problems is that they pay out their earnings to the owners. Don't cry your business is strapped for cash if you just took out $120,000 to pay for a new four-car garage at home.

Cash is king. That phrase has been around for a long time. You generally don't want excess cash piling up and not working, but you should have enough for a buffer and to take advantage of deals such as an auction of a competitor's inventory or equipment. Having a cash cushion will also allow you to sleep better at night.

Long-term issues. Unless you're undercapitalized, cash flow problems don't arise overnight. As we said in Part I, some businesses are cash cows, some cash pigs. If your suppliers' terms are all net 10 and your customers are net 60 and you've got to carry a sizable inventory, you're going to have to have working capital.

Get help. If you can't manage your cash, get help from someone else. A retired CPA, someone your accountant uses during the tax season, or maybe you need to hire a bookkeeper. It depends on the volume and complexity of your business. You may have seen the ads of how your bank (or other institution) can help. Many offer canned ideas that involve selling receivables, taking credit cards, etc. Get good advice from an independent source before committing.

Capital budgeting. Most of the comments here have been about the operating budget. But you've got to keep in mind your capital budget. You've got to build up cash for equipment purchases, etc. After you're done projecting operating cash flow, unless capital expenditures are insignificant, you've got to do a capital budget. That is project your equipment purchases and how you'll finance them.

A side benefit of managing your cash flow is your banker, other lender, or investor will be impressed. It shows you've got control of the business. Conversely, a lender will immediately see you're not a good manager if you you're highly profitable but have to borrow (unless there's another reason such as rapid growth).  

Copyright 2012 by A/N Group, Inc. This publication is designed to provide accurate and authoritative information in regard to the subject matter covered. It is distributed with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional should be sought. Articles in this publication are not intended to be used, and cannot be used, for the purpose of avoiding accuracy-related penalties that may be imposed on a taxpayer. The information is not necessarily a complete summary of all materials on the subject. Copyright is not claimed on material from U.S. Government sources.--ISSN 1089-1536

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--Last Update 10/23/12