Cash flow is one of the most important parts of running your business. Some people mistake cash flow for revenue or transactions, but it actually describes all of the money coming into your business and – equally – all of the money going out.

Cash flow is highly sensitive to changes in the market, such as the price of goods, utilities and sales levels. That’s why entrepreneurs need to become well-versed in adapting to the times to ensure they remain cash flow positive. Problems may arise from time to time, but there are ways to tackle these challenges so that your cash flow stays healthy and your business keeps running. 

Here we’ll look at common causes of cash flow issues, how to spot issues and, most importantly, how to solve them.

How to calculate cash flow

The first step in solving cash flow problems is to know how your calculate cash flow itself. This is simple:

Cash flow = net income + depreciation – capital expenditure - change in working capital

Income might include sales, investments, or bank loans. Expenditure includes staff salaries and operational costs.

Creating a cash flow projection is a great way to better understand how money moves in and out of your business. It can highlight times when cash flow might be tight, so you don’t spend money you don’t have or miss the opportunity to seek financial support from elsewhere. Unexpected and unforeseen costs are all part of running a business, and they will crop up, but an accurate forecast can help you to better manage your cash flow each month. 

Check out our free cash flow template to help with your forecasting.

What causes cash flow problems?

Lack of cash reserves

Just like individuals, businesses need to be prepared for unexpected expenses. 

Having an emergency fund can help cover unforeseen costs such as high tax bills, increased supply costs, or disaster repairs. Start by determining how much you need to cover immediate expenses for a set period and save accordingly. Set up automatic transfers to a dedicated emergency account to ensure consistency.

Not Creating a Budget

A budget is the foundation of financial management, many businesses either don’t create one or don’t add sufficient or realistic detail. 

Creating specific, realistic goals and overestimating expenses can give you a financial edge. A budget provides a financial focus and a framework for spending decisions. Remember, a budget should be flexible. Regularly revisit and adjust it as your business grows or as economic conditions change to ensure it remains relevant.

Receiving Late Customer Payments

Customers are the lifeblood of any small business, but late payments can disrupt cash flow. Alarmingly, more than half (54%) of the UK's small and medium sized businesses are suffering as a result of late payments. To mitigate this, send invoices promptly and offer multiple payment options. Clearly communicate payment terms and expectations upfront and on every invoice. Requesting deposits or full payment upfront and implementing late payment fees can also help ensure timely payments.

Uncontrolled Growth

Growth is often seen as a positive for small businesses, but it can strain resources if not managed carefully. Rapid growth typically requires more employees, better equipment, and possibly larger office space, all of which increase expenses. Prepare for growth by planning for associated costs. 

Financing options such as small business loans or business credit cards can help cover these expenses. Weigh the pros and cons of each option based on your business needs and plan ahead to avoid cash flow issues.

Inaccurate Forecasting

Accurate forecasting is critical for managing daily cash flows and coordinating with multiple departments. However, data and human errors, demand uncertainty, and supply chain issues can lead to inaccurate forecasts. Consolidate and cross-check data from different sources to reduce errors and improve forecast reliability.

Lengthy Payment Terms

Offering extended payment terms to clients can be detrimental to cash flow, especially for SMEs with limited capital. Long payment terms delay cash inflow, tying up liquidity in accounts receivable. Determine an optimal cash conversion cycle for your business and set payment terms accordingly to maintain healthy cash flow.

Inefficient Bookkeeping Practices

Poor bookkeeping can lead to missed financial transactions and unrecorded payables, which negatively impact cash flow management. Investing in reliable accounting software can help SMEs track transactions accurately and maintain better financial records, thereby improving cash flow.

Low Profits

Start-ups and SMEs often struggle with low profits during their initial growth phase, leading to inadequate liquidity. Balancing attractive pricing to build a customer base with maintaining healthy profit margins is crucial. Negative cash flow from investing activities can be a common issue, so managing expenditures and revenue streams carefully is essential.

What are the effects of cash flow problems?

Poor cash flow can negatively impact a business, but only if it isn’t handled well. Effects of poor cash flow can include:

• damaging relationships with supplies waiting to be paid
• missing opportunities that can’t be funded
• poor employee morale and high staff turnover
• stress and worry
• insolvency.

But don’t worry – if businesses can take action as soon as problems arise, and are proactive in managing their finances, they can avoid these effects entirely.

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5 solutions to cash flow problems

According to the Office of National Statistics, cash flow issues are the cause of 90% of UK business failures. Knowing how to calculate, manage and identify common reasons for poor cash flow will help make sure you can keep your business flowing. 

It’s about staying on top of what’s moving in and out of your accounts, and finding the right tools to help you manage and improve your cash flow as you go. Read our article on cash flow management for more.

1. Develop a Short-Term Business Survival Plan

Begin by dissecting your business plan, processes, upcoming operations, income, and expenses. Use job costing to review your profit and loss statements and margins. This will help you identify significant expenses and profits associated with your products, services, clients, and labour. The aim is to maintain operations by scaling back and slowing down where necessary.

By having this detailed information, you can create an accurate cash flow projection. This can also help you predict the impact of scaling back in extraordinary situations. For instance, a salon owner might implement measures like regular sanitisation, virtual consultations, and delivering at-home colour kits to sustain operations and cash flow.

2. Cut Down on Expenses

Your survival plan will highlight essential and non-essential expenses, making it easier to identify areas to cut costs. Depending on your situation, a few strategic changes might help restore positive cash flow:

• Temporarily discontinue non-essential services.
• Introduce virtual or delivery services.
• Cancel or reduce premium services.
• Switch to a lower-cost supplier temporarily.
• Cut down on operating costs.

If you’re considering layoffs, explore all possible alternatives first. Also, if you think you might need to shut down temporarily, ask yourself essential questions to explore all options.

3. Accelerate Accounts Receivable

Speeding up payments can significantly boost your cash flow. Here are several tactics to help you get paid faster:

• Send invoices promptly.
• Divide payments into project-based weekly or bi-weekly instalments.
• Follow up on overdue accounts.
• Request deposits or partial payments upfront.
• Offer incentives for early payments.
• Accept various payment methods.

Additionally, consider invoice factoring, where a factoring company pays you a portion of what you’re owed, giving you immediate cash while they handle debt collection.

4. Renegotiate Accounts Payable

Another way to improve cash flow is by reducing or renegotiating your expenses. Start with utility providers and long-term vendors. Be honest and open to discussing flexible terms and payment options. If cash flow is tight, prioritise critical expenses like payroll over less urgent bills.

5. Use short term finance to plug cash flow gaps

Injecting capital into your business through borrowing can help stabilise cash flow. At iwoca, we offer a Flexi-Loan designed to meet the immediate financial needs of small businesses, with quick access to funds with flexible terms, making it an ideal solution for managing cash flow without the long waits and rigid criteria associated with traditional loans.