It is easy to assume that business success and failure can be fully measured by profit and loss, assets and liabilities and black and red. However, running a small business is much more complex. Consider cash-flow and profits. Believe it or not, a business can be profitable without being entirely successful – profitable, yet cash poor.
A business’ profit – also known as net income – is the surplus after all expenses have been deducted from revenue; it is also the basis on which tax is calculated. Cash-flow, on the other hand, is the inflow and outflow of money from a business. Having negative or positive cash-flow will determine how much cash on hand a business has for daily operating costs, inventory and equipment purchases, payroll, etc. While profit paints an overall picture and measures the sustainability of a business, the state of a business’ cash-flow (negative or positive) measures its ability to meet current and near-term obligations.
Identifying What It Means to be “Cash Poor”
If your business has high profit but low cash-flow, it will quickly result in the inability to pay bills and fund growth. Poor cash-flow means your business’ money is tied up in accounts receivable and fixed assets. Even though you are making a profit, you will be unable to meet financial obligations because you are waiting for invoices to be paid. Unfortunately, this situation can easily send a profitable business into bankruptcy. A recent study by U.S. Bank found that 82 percent of small business failures were attributed to poor cash flow management or poor understanding of cash-flow.
Alternatively, even if your business has positive cash-flow and is able to pay all of its bills, that does not mean it is profitable. If you have borrowed money to boost cash-flow and cover day-to-day operating expenses and growth, you are incurring debt. The rising debt costs on the loan could cause costs to exceed the break-even point; your business will fail to make a profit. In addition, if your business experiences a sharp increase in production volume, it could also push costs above a profitable level.
Managing Growth and Cash-Flow Within a Small Business
For your business to thrive, it is critical that you keep track of both profit and cash-flow. Small businesses are at higher risk of becoming “cash poor” because they are continually reinvesting their profits into the operation to fuel growth.
According to the WePay SMB & Money Survey, 41 percent of small business owners experienced cash-flow challenges in the last year. The study also found that:
- One-third of small business owners said they received payment immediately for their products/services.
- Twelve percent said it is standard for customers to take one month or longer to pay.
- Ten percent said they have had customers avoid paying for 181 days or more.
Maintaining sufficient working capital is one of the biggest challenges a startup and small business face. To avoid negative cash-flow situations, many businesses seek outside solutions to cover operational expenses and/or continue to expand. However, the problem with many cash solutions is that, while they may provide immediate relief, they can quickly push the business into a downward spiral of debt.
Invoice factoring, on the other hand, allows your business to leverage its unpaid accounts receivable to generate cash on hand. Accounts receivable are the lifeblood of your business’ cash-flow. The invoice factoring process involves selling your business’ accounts receivable to a third party (factoring company) at a discount. The factoring company then quickly advances the working capital your business needs against unpaid accounts receivable for a fee. The advantage of choosing this solution is that your business is given cash it has already earned and your business secures the flexibility it needs, without adding a burden of debt.
It is critical that your business generate profits while also operating with positive cash-flow. Planning ahead for gaps in accounts receivable, implementing strong cash-flow management and obtaining outside cash solutions will ensure you have the flexibility you need to build a profitable, healthy business. In continuously managing and analyzing your business’ finances, you will ensure you have the necessary cash to seize opportunities for growth and investment when they arise.
Security Business Capital’s Invoice Factoring Services
The team of experts at Security Business Capital specialize in helping companies secure the funds they need to operate smoothly, grow their business and take advantage of opportunities. SBC’s invoice factoring services, for example, allows you to use unpaid invoices to secure the cash you need quickly and easily. Invoice factoring is successfully used by many different industries, including: manufacturing/distribution, business services, transportation, oil and gas, among many others.