Ask entrepreneurs what the life blood of their business is and many would probably say sales.
And they’re not wrong.
Sales, or paying customers, are essential for a company to stay in business. Without sales revenue, the business closes its doors.
But the truth is that cash flow, which is the speed with which cash flows into and out of the company, is even more important. That is, it doesn’t matter how high your sales are if your expenses are even higher. It also doesn’t matter how high your sales are if your customers are super slow to pay.
To be successful, your business needs to consistently have more money coming in, through revenue, than is have going out, to pay expenses like salaries, rent, utilities, and cost of goods sold.
There are a number of ways to improve your cash flow and your financial position. One is to get money from customers faster and the other is to slow and/or minimize the exodus of cash from your business bank account.
Require prepayment. Stacy Caprio, founder of Her.ceo, recommends requiring payment before you ever start work. She requires at least 50 percent payment up front for phone consultations, or she uses Clarity.fm so payment is required. “Think about how you can structure your offers and payment plans so the majority or full payment is required up front to reduce cash flow issues, or having to chase down payments after the fact.”
Incentivize quicker payment. One way you can often persuade customers to pay quickly, or in advance, is with either a discount or “gifting any item or service your customer would value,” says Stephanie Ng, CPA, author of How to Pass the CPA Exam, “especially if the cost to you is very low.”
Bill faster. If you can’t get payment in advance, invoice immediately on delivery of services. (With products, you should expect to get paid on delivery.)
“When you want people to pay you faster, the key is to make the payment process as frictionless as possible,” says Zach Reece, owner and chief operating officer of Colony Roofers LLC. “That means having as few barriers as possible between the person and the final payment.” To do that, Reece recommends using online billing systems. He cites Freshbooks, which reports that electronic payments are made eight days faster than offline payment methods, and Intuit, which found that businesses using its platform were typically paid within 10 days of sending an invoice. “All other methods took and average of 27 days,” he says.
Follow your customers’ payment instructions. In many cases, especially when billing larger organizations, there are established processes in place that vendors need to follow in order to be paid promptly. “The number one mistake that causes invoices to age out is companies not following their customer’s invoicing process/instructions. You must know and follow your customer’s exact requirements for invoicing, as businesses have varied procedures that must be followed in order for them to timely process your invoice,” explains Farrah Vargas, CAEF, senior vice president of business development for Allied Affiliate Funding, a division of Axiom Bank, N.A.
“Ensure that you invoice your customer exactly how they have instructed, know who approves your invoice, and know who the person is in accounts payable (A/P) that handles the processing and payment of your invoice,” Vargas says. “If A/P doesn’t have your invoice for processing, it will not be paid.”
Offer a payment plan to create recurring revenue. Although payment plans introduce the risk of not being paid in full, an air-tight contract often addresses that issue. And stretching payment over several months is one way to generate recurring revenue, explains business coach Danielle Hu, founder of The Wanderlover. “Instead of having all clients pay up front, monthly recurring revenue (MRR) is your friend, so you are always starting the month with cash coming in,” Hu says. “MRR is another way you can earn money, work alongside your clients in a friendly setting, and improve cash flow!”
Set up a line of credit. Before you find yourself strapped for cash, apply for access to a line of credit, says Jennifer Harder, founder and CEO of Jennifer Harder Mortgage Brokers. A line of credit can be “a backup plan,” she says, though she strongly advises applying for the line of credit before you “are in desperate need,” because you’re less likely to be approved at that point. “It’s preferable to set up the line of credit when you have good cash flow and your company is performing well, rather than attempting to solve the issue at the last minute.”
Use accounts receivable financing. “This can be done with your bank if your credit is good and you have a strong relationship,” says Katharine Earhart, partner and co-founder of Fairlight Advisors. Accounts receivable financing involves getting a loan using your payments owed as collateral. Your bank “may do a short-term loan for a percentage of the A/R—70% to 80% of the value,” says Earhart. Although you’re taking on a debt, this type of financing is generally less expensive than factoring.
Turn to factoring. Similar to A/R financing, factoring “is the sale of your company’s receivables to generate cash for your business quickly, while you wait for the customer to pay the invoice (typically 30-60-day terms),” Earhart explains. Although factoring is one way to get cash fast, it can cost anywhere from 5% to 10% per month, she says, so “think carefully and strategically before pursuing this route.”
Maximize time to pay your bills. Says Ng, “if you have a large accounts payable balance, be sure you aren’t paying bills ahead of time. It’s not uncommon for a large vendor to offer terms that will provide a 3 percent discount if you pay by a specific date, so prioritize paying that vendor early and find comfort in paying other vendors by their due date,” she says. You can also reach out to vendors and request longer payment terms, too.
Lease, don’t buy. If you anticipate a cash shortage in the coming months, don’t spend all of your available cash on equipment if you can, instead lease it. The total cost will be higher over the term of the lease, yes, but by spreading payments out over multiple years, you may also avoid the need to rely on expensive accounts receivable financing tools. Leasing also gives you the flexibility to regularly update your equipment or technology at the end of your lease term, without having to sell what you currently have.
Liquidate old inventory. Product-based businesses frequently find themselves with inventory that just isn’t selling and is sitting around taking up shelf space. One way to convert that inventory into cash is to liquidate it, either through a big sale with deep discounts, to move it all out, or through the use of a liquidation firm that will buy it all for pennies on the dollar. Granted, taking a loss on your inventory may not be appealing, however, holding onto products that are declining in value is really only tying up cash you could be using for other purposes.
Successful cash flow management requires paying close attention to where your money is coming from, and where it’s going. Keeping money in your account as long as possible, with a steady stream of deposits, helps to avoid cash shortfalls.