Four Cash Management Tools every Small Business Owner should be undertaking
CASH is King! And it should be treated as such by the small business entity. Cash Management is the most important financial skill the small business owner can possess. Hence, there is need to understand Four Cash Management Tools every Small Business Owner should be undertaking.
To grow your enterprise, to trade on a day to day basis, to market your products and services, to realise your vision and earn a return on your investment, your small business needs CASH. Cash is like oxygen to your entity. A cash strapped business will struggle to trade on a day to day basis and in the long-term will only decline and stagnate. Without cash and without the skills and tools to manage such a valuable resource your business will struggle to survive.
Cash is a finite resource. Once you spend it, you no longer have it to spend elsewhere. It is therefore imperative to allocate your business’ cash to expenditure that will maximise the benefit to your business. You want to allocate your cash on expenditure items that generate further trading and build upon your cash reserves. In turn you will give your business a fighting chance for survival.
The key to Cash Management is therefore to minimise cash consumption and maximise cash conversion.
When your business consumes cash you deplete your cash reserves and remove opportunities available to build on this resource. A simple example of expenditure that consumes cash are bank charges. Unfortunately these are a small cost that generally need to be incurred in order to maintain a trading bank account however other than providing the benefit of use of such a facility it provides little more future value. While consumable expenditure such like this are unavoidable and also required in some form in any business the key is to minimise them.
Ever heard the saying you need to spend money to make money! When your business spends cash on cash converting expenditure it subsequently grows your cash reserves and you place your business in a position to be able to expand and grow bringing you closer to realising your vision. An example of expenditure that will add to your cash reserves is the purchase of a machine used to produce a product you sell in return for revenue. While initially such a purchase will deplete your cash reserves in the long term the future benefit of operating the machine will add to your cash reserves through a possible increase in the number of units you can produce and subsequently sell.
It is also worth recognising that in some instances the same expenditure can be either consuming or converting in nature. Expenditure on your labour force is a good example. When your employee base is efficient and productive resulting in stable and increased revenue at a respectable level of cost then expenditure on your labour force would be considered to be a cash conversion expenditure and will subsequently grow your cash reserves.
However I have often seen mismanagement of labour resources that result in excessive expenditure on remuneration costs depleting the benefit the efficient part of their labour force provides. In these instances the excess labour expenditure is consuming in nature and cash balances are depleted. It is therefore vital that labour requirements and expenditure need to be managed in order to benefit the business and grow cash reserves.
Four Cash Management Tools every Small Business Owner should be undertaking
There are four Cash Management tools that the small business owner can use in to minimise cash consuming expenditure to that which is deemed necessary and maximise cash converting expenditure to improve their cash balance and their business’ financial stability.
1. Bank Balance
This may seem obvious but can quickly get overlooked when we get caught up in the momentum of day to day trading.
On a daily basis you, the business owner, should be reviewing your cash balance. You should be taking note of what money has been received and what payments have been made and ascertain that they are alignment with your expectations. Any discrepancies should be investigated and associated action taken.
This exercise should take no more than 5-10 minutes.
For the micro-business you are likely undertaking the management of these transactions yourself. Still take a few minutes to check that they have occurred as you have planned and your cash levels are where you expect them to be.
In the small to medium entity you are likely to have an employee assigned the responsibility of recording the bank transactions on a regular basis. Even though, in order to keep in touch with the ground roots of your business, you should be eye balling the daily movements to verify that movements in and out have occurred as you expected. This enables you to ask questions and take necessary action when something has gone amiss when it occurs rather than later down the track. It is always easier to correct errors and redirect omissions as they occur and you want to be able to rely on what your cash balance entails rather than presuming that you are still expecting a payment that has already been received.
2. Financial Statements
A set of accurate and consistently prepared Financial Statements will provide you with the best summary of your business.
These Financial Statements should be reviewed on a monthly basis by you, the business owner. Sounds like a headache, but it doesn’t have to be. Once you equip yourself with the ability to decipher what these financial documents are telling you and you have established a process for this review it should take no more than an hour to be across where your business is at.
Note, the business owner does not need to know how to prepare these statements, nor do you have to be the one assigned to processing all of the business transactions. However as the business owner you are responsible for the financial viability of your business and therefore have a responsibility to review the Financial Statements on a regular basis and understand what these reports are telling you.
If you are reviewing your bank balance and cash activity on a daily basis you have already made a step in this direction. As you become more adept at reading your business’ financial statements, you will develop an understanding of how these daily cash transactions will affect these reports making them easier to understand. Some elements are obvious like sales revenue, but others like increased expenditure on inventory may not be.
3. Cash Projections
What is a cash projection?
In its simplest form a cash projection takes into account your current cash balance, adds expected cash you anticipate receiving and deducts expenditure you are planning to make to come to a projected cash balance.
This can be done informally on a scrap piece of paper or it can be conducted more formally taking into account where your cash balance is today and projecting the cash inflow and cash outflow for each day, week or month over a set period. The larger your enterprise the greater the need for a formal Cash Projection process.
The purpose of preparing a Cash Projection is to identify how much cash your business requires to trade on a daily, weekly or monthly basis. You should also be able to identify when your cash balance is expected to peak and when it is at its lowest. It will also help determine whether you have sufficient cash inflows to continue day to day trading and build upon your cash reserves.
For those entities that have healthy cash reserves, they should be preparing Cash Projections in order to remove unnecessary cash consuming expenditure and determine what cash they have available to grow their enterprise. With better cash allocation choices their cash reserves can be improved further.
However, most small businesses, particularly the start-ups, are cash strapped and the importance to identify how much cash you need and when escalates. By identifying which expenditure is cash consuming and cash converting you can begin to manage the allocation of your cash outflows in order to maximise their future benefit and grow your cash reserves. Without injections of cash from external sources this can take time and patience however your business will have a better chance of survival if you manage your cash accordingly.
4. Annual Cash Budgets
Despite appearances, no-one is an overnight success. A successful business is usually the result of a multitude of decisions, some successful and more of them failures. In order to avoid repeating the failures that drain cash from your entity, it is important to plan. That plan should at least constitute the next twelve months and for larger entities a three year plan should be undertaken. This plan becomes more important when your business is in a growth phase.
The preparation of an Annual Cash Budget, follows the cash allocation required to finance the strategies you plan to implement and will help you determine which of those strategies are the most viable and potentially successful for your business from a cash perspective. Quite often the most unlikely of strategies proves more advantageous than the strategy that was perceived to be so it is worthwhile undertaking this exercise at least on an Annual basis with a mid-year update.
Remember a $1 of cash can only be spent once. Your Annual Cash Budget should assist you in determining the cash consumption expenditure that is necessary for your ongoing business and how effective the cash converting expenditure is at improving your cash reserves in the long-term. It will indicated if and when additional funds will be required form an outside source to supplement your cash reserves assisting you with planning ahead. It will highlight what cash is needed for day to day trading and if additional cash converting activities can be undertaken without jeopardising day to day cash requirements over an extended time frame.
Cash is oxygen to your business. Cash Management is the most important financial management activity that the small business owner should undertake. Cash Management can be as simple as reviewing your cash balance and drafting an informal cash projection on an occasional basis, or more formal with regular Cash Projections and Annual Cash Budgets incorporating growth strategies and cash allocation plans. Whichever Cash Management tools are used, when you, the small business owner, is focused upon managing your cash you will be more effective in its allocation and possess a better chance of increasing your business’ cash reserves and surviving in the long-term.
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