Most small businesses encounter a cash flow problem at one time or another. Fortunately, most cash flow problems can be prevented with a bit of preparation and the right strategy.
This article lists the 5 most common cash flow problems, along with ways to solve them.
1. High overhead expenses
Overhead expenses are the costs of running a business that are not tied directly to selling a specific product or service. Examples of overhead include rent, telephone, utilities, etc. Sometimes overhead expenses get out of hand relative to the revenue the business produces. High overhead expenses can hurt your business’s cash flow.
High overhead expenses are particularly challenging because they are persistent. These expenses affect your cash flow every day until the problem is corrected.
The solution to this problem is simple, but it is not easy. Audit your expenses and cut back where you can. Be careful not to cut too much, as that approach could also hurt the company.
If you cannot cut back, consider cheaper options. In fact, every business should audit expenses regularly to ensure that overhead expenses stay in line.
2. Slow-paying invoices
Slow-paying invoices are a common cause for cash flow problems. As a small business, you have to offer 30-day to 60-day payment terms to clients. However, small companies can’t always afford to wait this long for payment. They need money sooner. Eventually, slow payments create a financial problem that can seriously affect your business even if it’s growing quickly.
There are two ways to solve this problem. One solution is to provide clients with an incentive to pay faster. Offering a 2% discount in exchange for a payment in 10 days can motivate clients to pay quickly. However, this incentive needs to be negotiated directly with each client.
An alternative is to use invoice factoring to finance slow-paying invoices. This method improves cash flow immediately and enables you to offer payment terms with confidence. To learn more about factoring, read this article.
3. Excess inventory
This problem can affect companies that manufacture goods or re-sellers that keep a warehouse stocked with products. If too much product is made or purchased, it ends up sitting on shelves and tying up cash flow.
Fine-tune your inventory so that you stock items for the shortest possible time before being sold or used in the manufacturing process. The amount of product you keep in stock depends on your volume, sales forecasts, available cash, and supplier capabilities. Monitor inventory levels carefully. Having key products out of stock is a sure way to lose clients.
Companies that re-sell products can also use purchase order financing to finance large sales that exceed their cash flow capabilities. When used correctly, purchase order financing can improve your cash flow and allow you to finance the supplier expenses associated with large orders. For more information, read this article.
4. Too much bad debt
Bad debt occurs when you sell product, or provide a service, to a client who does not pay. Bad debt presents an obvious harm to your cash flow and your profitability.
The solution to this problem is to review the commercial credit of your clients before you extend payment terms. Provide terms only to clients who have good credit and a solid payment record. Others should prepay until they have built a track record with your company. This strategy may cost you some sales. However, it will only cost you clients who were deemed credit risks to begin with.
5. Insufficient gross margins
Small businesses sometimes sell their products and services for such low prices that they have low, or negative, gross margins. This scenario often happens in highly competitive environments with constant pricing pressure. It usually affects small business owners who do not have a clear understanding of their costs.
To solve this problem, audit all your products and services to determine the all-inclusive cost of delivering your products and services. This step is difficult but necessary. Once you have determined the all-inclusive cost, do the following:
- If you can, raise the prices of products/services that have weak margins
- If you can’t raise prices, consider dropping products/services that have weak margins
- Ensure that all proposals price your products according to their cost
One thing to keep in mind
Cash flow problems can be serious and threaten your ability to stay in business. If you don’t have direct financial experience, consider working with a CPA or financial expert to help you determine which problems you have – and how to solve them.
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We are a leading factoring and purchase order financing company and and can help you with your cash flow problems. For more information, get an online quote or call us toll-free at (877) 300 3258.