I love the saying, “If you water it, it grows. If you ignore it, it dies.” This principle applies to running a business—especially when it comes to managing cash flow. As a fractional CFO, I often remind clients that cash flow is the lifeblood of their business; it needs regular, focused attention to thrive.
Recently, I spoke with a small group of business owners about my 4 Pillars for Small Business framework (explained more in my free booklet, Be Your Own CFO), and we honed in on cash flow. Cash flow isn’t just about having money in the bank. It’s about understanding where cash comes from, how it flows through the business, and how to measure and manage it effectively.
Why Cash Flow Needs a Detailed Approach
Cash flow management is most effective for small businesses when handled in detail. Here’s a simple but powerful method: use a cash flow tracking tool (like the one available here) and set up a weekly review process. This involves updating expected customer deposits, cash payments for payroll, and other cash payments for operating expenses by vendor. Make it a habit to recast these forecasts each week with actual numbers—this ongoing process will help you identify trends and adjust for any surprises.
Key Cash Flow Metrics to Monitor
There are a few metrics I always recommend tracking to get a clear view of cash flow:
• Net Income: The foundation of cash flow.
• Days Sales Outstanding (DSO): How quickly you collect receivables.
• Inventory Days: Reflects the average time inventory is held before it’s sold.
• Days Payable Outstanding (DPO): Measures how long you’re taking to pay vendors.
Monitoring these metrics gives insights into your cash flow drivers, helping you make more informed business decisions.
Cash Flow Impact: The Power of a 5-Day Improvement in DSO
Let’s look at an example of how a small improvement in DSO can positively impact cash flow.
Say you have a $5 million business with an accounts receivable balance of $575,000. Here’s how you calculate DSO:
1. Average Daily Sales:$5,000,000 ÷ 365 days = $13,699 (daily sales)
2. DSO:$575,000 ÷ $13,699 = 42 days
Now, let’s assume you reduce DSO by 5 days. Your new DSO would be 37 days, yielding $68,500 in additional cash flow:
• New Receivable Balance with 5-Day Improvement:
37 days x $13,699 = $506,500
• Cash Flow Improvement:
$575,000 – $506,500 = $68,500
This means a small change in collections can significantly improve cash flow, freeing up cash for things like reinvesting in the business or paying down debt.
The Strategy: Policies, Awareness, and Consistent Tracking
Managing cash flow doesn’t happen by accident. You must establish policies around invoicing, follow-up, and payment terms and build awareness within your team. You need to use dashboard reporting to track cash flow metrics and keep them at the forefront of your mind. Most importantly, you should focus on the details—cash flow is in the transactions.
You’re nurturing your business’s financial health by giving cash flow the attention it deserves. Remember: if you water it, it grows. And with a steady focus on cash flow, you empower your business to grow sustainably with fewer unpleasant financial surprises along the way.
Have questions? Contact me!