How Business Owners Can Improve Cash Flow By Thinking Profit First!
Small business owners don’t necessarily need to be numbers people in order to succeed. Successful business owner characteristics include drive, passion, the ability and will to follow things through, and the hustler’s spirit. These things enables small business owners to constantly try that new thing or relentlessly chase that next big opportunity.
All small business owners need to have an iron grip on their financial controls, processes, and results to prevent roadblocks. Business financial statements provide a lot of information about how a business is performing. Other useful tools include key ratios, terminology, and the stories behind your numbers. The right accountants and business advisors help small business owners interpret them.
Where Is Your Money Coming From?
And moreover, where is it going?
It can seem like operations are running smoothly because cash is regularly deposited, the bills are paid, and imminent tax filings don’t feel like a shakedown where you have to scramble to get the funds together. But while your bottom line might look good on your next attempt to raise capital, you could find yourself in hot water if it turns out that only one revenue stream and/or client constitutes most of your revenue. If that client goes out of business or otherwise decides to stop or reduce their payments, it could be significantly harder to pay back the loan you took out or demonstrate to your investor that you’re worth going past seed stage.
Demonstrating that you can make a profit is important for raising capital, but raising capital isn’t a be-all and end-all. Spending time trying to qualify for loans, grants, and outside investment might be better spent getting more clients, users, views, income-producing property, or other important revenue drivers first. This could prove to be even more important than trying to keep your burn rate (cash outflow) under control. Constrained cash flow is usually why most companies fold within the first two to three years of operation, and often gets overlooked by busy entrepreneurs focusing primarily on raising funds or posting an impressive profit.
Financial Transparency — More Than Just Compliance
In your quest for capital, your focus is likely to be directed toward the numbers investors are going to pay attention to: margins, profit generated relative to the capital you already invested, and how many users you have. Providing transparency about your finances is more than just being compliant with the law. Transparency is also about providing a more accurate picture of where your business currently is and where you expect it to go. In the early stage, companies are more likely to get investment capital by showing promise with the actual product and business model.
On the other hand, banks have stricter requirements for loan repayment and will be more stringent concerning financial compliance. Banks want to see a proven track record and profit. They are less interested in growth potential, especially if you’re not a very capital-intensive business with significant collateral such as vehicles or real estate to secure the loan.
Improve Cash Flow Management by Putting Profit First
Regardless of whether you go for the more dynamic risk-taking with investor funding or the predictable repayment process with a business loan, all external capital sources will want to see proof of proper cash management even more than having stellar revenue numbers.
The ability to adequately control your cash inflows and outflows is what will help your company weather any storm. One train of thought to help drive profits, is to look at concepts like Mike Michalowicz’s “Profit First” model that changes the Revenue – Expenses = Profit expression into Sales – Profit = Expenses. A profit first cash flow management mindset helps business owners prioritize their personal and business savings so that operating expenses, expansion, taxes, and personal income are always being paid.
By “paying yourself” first, it ensures that your financial results are based on having enough cash on hand before you pay any expenses.
Most investors and some banks may require a cash flow statement. Don’t wait until you have one at the end of the month, quarter, or year. Review your cash flow every week. Your cash flow review can identify areas where improvement opportunities may exist. Examples include expenses that can be eliminated, sagging sales, or cash collection problems.