What is cash flow management and why does it matter?

Improving cash flow is a smart move for any business. It doesn’t matter how great your business model is, how profitable you are, or how many investors you have lined up. You won’t survive if you can’t manage your company’s cash flow.

In fact, one study found that 82% of businesses fail due to poor cash flow management skills. If you’re looking for one area to focus on that will have a dramatic impact on your business, this is it.

New and growing businesses often don’t have a buffer of extra cash to get them through shortfalls, because they are always reinvesting. Add to that, years with the most significant growth—including the first few years of a business’s lifespan—are also the most challenging when it comes to cash flow.

Cash flow quickly becomes one of many reasons it’s so hard to get a new business off the ground.

What is cash flow management?

So, what is cash flow exactly? Cash flow is the amount of money, cash and non-cash, travelling into and out of a business. A positive cash flow is more money coming in than going out and a negative one is less coming in than the business needs to cover outgoings.

To calculate cash flow a business takes note of the cash available at the beginning and at the end of a specific period. The time period may be such as a week or a month. The business will have a positive cash flow if there is more in the account at the end of the period than when the period began and less would indicate a negative one.

Getting good at cash flow management is one of the best things you can do for your business. Not only that, it’s a skill you can carry over into other ventures, as well as your personal finances.

We’ve put together a free forecasting template to help you manage cash flow. Access it with this link (or later in the blog post) and keep reading to learn how to use it.

The difference between cash flow and profitability

Defining cash flow management.

Cash flow is not the same as profitability. A profitable business can still be unable to pay its bills. Similarly, just because a business is meeting all of its financial obligations, doesn’t mean it’s profitable.

Profit is an accounting term, which really only exists on paper. Measuring profit is a particular way of looking at a business. It doesn’t tell you a whole lot about how the business is getting by day-to-day.

How to calculate profit

The first step to calculating profit is to take your total revenue and then subtract the cost of the goods sold. The difference is your gross profit.

Revenue – Cost of Goods Sold = Gross Profit

For example, if you sold $100,000 in rocking chairs, and the chairs themselves cost you $50,000 wholesale, your gross profit would be $50,000.

Revenue:                    $100,000
Cost of Goods Sold   -$50,000
Gross Profit:                $50,000

Of course, you would probably have other expenses beyond buying the chairs. For example, you’d need a place to store the chairs, and you might want to run some ads to get more sales. These expenses are called operating expenses, and they get subtracted from your gross profit.

Operating expenses include most costs that don’t directly connect to what you sell—things like rent, equipment, payroll, and marketing.

The second step is to subtract operating expenses from gross profit. The difference is net profit.

Revenue:                    $100,000
Cost of Goods Sold:  -$50,000
Gross Profit:                $50,000
Operating Expenses: -$35,000
Net Profit:                    $15,000

If your net profit is a positive number, you made money. If it’s a negative number, you lost money. This report as a whole is called the income statement or profit and loss (P&L).

The ‘problem’ with profit

The problem with income statements is that they don’t show your whole business. A few essential pieces of information are missing.

1. Debt repayment

If you have any business loans or other startup capital to repay, it won’t show up here. Only the interest on those loans is included on a P&L, even though debt repayments can eat up a lot of cash.

2. Equipment payments

Similarly, if you make a significant equipment purchase, the entire cost will not show up in this section. Instead, that cost will get spread out over the lifetime of the equipment. If you spend $100,000 on a canning line and you think it will last you ten years, your income statement will show an expense of $10,000/year for ten years, even if you had to pay all of it upfront.

3. Taxes

Note that your net profit isn’t taxed at this point, which means will shrink even more. Even if all of your profit is available in cash, you won’t be able to run out and spend it all in one place.

4. Cash received

Finally, many businesses use accrual accounting, which records revenue even if you haven’t received the money yet. On paper, you might have $200,000 in sales, but if no one has paid you yet you’re still going to have a hard time paying your bills.

Further, if you carry inventory, all that product has value and gets included on your income statement as well. Of course, to extract cash from your inventory, you need to sell it first.

Cash flow is all about timing

Ultimately, cash flow comes down to timing. You may be profitable over the course of a month or year, but not a specific day or week. If your bills are due at the beginning of the month, but you won’t have any money in the bank until the end of the month, you’ve got a cash flow problem. Even if at the end of the month, you made more than you spent.

Here’s the deal with profit: If you’re not profitable on paper, you’re in bad shape. You need to either increase your revenue or decrease your expenses if you want to stay in business.

But just because you’re profitable, doesn’t mean your business can run on autopilot. You still need to watch your cash—especially if you’re growing.

Why cash flow management is important

Although it may seem intimidating, there are clear benefits to understanding cash flow and prioritizing effective cash flow management.

1. Predict shortfalls

The first and most obvious benefit to managing cash is knowing ahead of time when you’re going to have shortfalls. Don’t find out you can’t make rent after the check bounces. With a good system in place, you can predict shortfalls weeks, and sometimes even months ahead of time, which gives you time to come up with a plan. For example:

  • Call your landlord and ask them to cash your check a few days later
  • Delay a shipment by a couple of weeks to put off paying duty at customs
  • Run a promotion to drive additional sales quickly
  • Go on a collection to spree to clear up outstanding bills

2. Reduce stress

Believe it or not, obsessing over cash flow will alleviate a lot of stress. Much of the anxiety entrepreneurs experience around paying bills comes from not knowing what’s going on and worrying about whether or not it will work out.

It’s much better to know what’s coming, even if the outlook is not good. When you know where you stand, you’ll feel prepared. More importantly, you’ll be equipped to deal with it.

3. Know when to grow

When you’re keeping an eye on cash flow, you know exactly how much money you have to spend on growth. Remember, just because your P&L tells you there’s extra money lying around, doesn’t mean it will materialize in real life.

Similarly, just because you have $20,000 in the bank, doesn’t mean you can spend it. You might need it to pay for upcoming expenses. When you look at your cash flow over weeks and months, you’ll know how much keep on hand, and how much you can stash away or spend on growth.

4. Gain leverage

Good cash flow management gives you leverage. If you need a line of credit from the bank to get you through a shortfall, or you want to get a supplier to give you a break for a few weeks without interrupting service, a good cash flow system will back you up and establish trust.

Banks generally like to see this kind of planning, especially if you can clearly show when you’ll be able to repay the funds. Suppliers are much more likely to be flexible if you can tell them exactly how you’ll pay and when—rather than cutting communication like most businesses do during tough periods. These people want your business and will be more willing to work with you through the ups and downs if they can trust you.

5. More accurate

Cash flow is significantly more accurate than a budget. Budgets tell you what you want to happen. They’re wishful thinking and entrepreneurs are optimistic by nature. Cash flow projections tell you what is actually happening so you can deal with it—even if it’s not what you planned at the beginning of the year.

Most of us (myself included) would often rather not think about cash flow and just hope it all works out. But it’s not worth the risk. You really will feel better by staying on top of your money.

How to forecast and manage cash flow

Creating a cash flow projection for your business.

There are many paid tools out there to help you manage cash flow. Personally, I think the free one is the best one: Google Sheets. Anyone can use a Google spreadsheet to create a cash flow statement. Although it’s a manual process, it doesn’t take long to set up, and it’s easy to track.

More importantly, it’s easy to customize on the fly and adapt to your specific needs or situation. You can be as broad or specific as you want. And the time you spend creating and updating your spreadsheet is valuable for gaining a clearer picture of your situation.

The cash flow spreadsheet is an outline of where your cash is going. It shows you when cash will be coming in, and when it be going out, and it’s a great way to visualize cash flow and adjust your approach.

What is a cash flow statement?

A cash flow statement is an account of the cash flowing into and out of a business over an accounting period, such as a month, quarter or year, although you can track cash flow for any time period that helps you see where your money is going. The statement shows you how the business used the cash generated during the time that the report covers.

Most businesses work best by planning week-to-week; however, some may need daily, others only need monthly. It’s also up to you if you want to include every single expense or just categories of expenses. These decisions will depend on the scale and complexity of your business.

Similarly, some businesses will be able to project their cash flow accurately for six months, others only two weeks. In general, try to project four to six weeks with reasonably accurately. A good rule of thumb is that the farther you are into the future, the less accurate your predictions will be.

Step 1: Forecast expenses

The first step is to lay out all your ongoing financial obligations. Start by making a list of all the things you have to pay for—rent, salary, advertisements, software fees, loan repayments—anything that comes out of your bottom line.

Write down what the expense is for, how much it is, and when it’s due. You’ll likely forget a few things, so review your bank and credit card statements to see what other expenses you find.

Step 2: Forecast revenue

Next, it’s time to forecast your weekly revenue. Many businesses experience fluctuations in sales so it can be a bit of an art. Try to be as accurate as possible. The more established your business becomes, the easier it will be.

Start by writing down any guaranteed revenue. If you sell subscriptions or have long-term contracts, you’ll have a good idea of what’s coming up. You can estimate if those numbers are going to go up, down, or stay the same. If a large portion of your sales come from first-time customers, it will be more difficult to estimate. Still, you should have a good idea of what to expect over the coming weeks and months. The closer you can get to reality the better.

One thing that helps with projections is to look at past data. In many cases, your sales from this week one year ago will be more accurate than your sales last week, because historical data takes annual cycles and seasonality into account. If you believe your sales will grow over last year’s, you can increase the amount, but it’s important to be conservative to avoid ending up in a bad situation.

As you forecast revenue each week, be mindful of any dips in sales due to holidays or the time of month or year, as well as any promotions or major deals that will positively impact your revenue.

Step 3: Plug in your data

Now comes the fun part. It’s time to fill in your data. First, grab your free copy of the cash flow projection template. Use it customize a row for each expense and each revenue source. You can be as detailed or broad you need to be.

Grab a copy of our cash flow spreadsheet.

If you sell a bunch of products on one website, you may only have one source of revenue. If you use multiple channels such as web, retail, and trade shows, you might want to have a line for each because it will be easier to predict.

Make sure you add revenue to the week it will become available to you. Keep in mind that it may take a few days to end up in your bank account.

Similarly, fill in your expenses. Some will be weekly, some bi-weekly, some monthly, some variable. You’re also going to have a lot of miscellaneous expenses popping up. Use the row labeled “Other” to work these into the spreadsheet.

Add your opening bank balance for the first week. The following weeks will be predicted automatically based on your revenue and expense projections.

Step 4: Update your projection spreadsheet

Your cash flow spreadsheet is a living document. If you keep it as a Google Sheet, it will be available anytime, anywhere. You’ll also be able to easily share it with someone else such as your accountant or another employee.

A good cash flow spreadsheet is updated on a regular basis. Once a week, log in and update your closing bank balance. If it doesn’t match your previous calculations, it’s a good idea to figure out why. Sometimes expenses you forgot about pop up, or you realize you may have been too optimistic in your revenue projections.

Next, hide last week’s column. You won’t need it anymore since it’s in the past.

Hiding a column in the cash flow spreadsheet.

Finally, add a new week of projections in the last column. You always want to have a minimum of four to six weeks laid out so you can plan ahead.

Any time you’re projecting a shortfall, the closing bank balance will alert you by turning red, which prompts you to make some changes. In the template provided, you can see that a shortfall is predicted in the third week.

Full view of the cash flow template.

By knowing this ahead of time, this company could contact their product supplier and renegotiate their next payment. Instead of paying all $5,000 that week, they could ask to pay $3,000 and settle the remaining $2,000 the following week.

Access our free cash flow projection template

If you haven’t already, don’t forget to grab your free cash flow template. Just click on this link, and you can access the spreadsheet in Google Drive. You’ll need to be logged into your Google account to make a copy.

Most companies cannot survive without proper cash flow management. But anyone can do it. Take the time to get organized now, and it’ll be easy to stay on top of it.

How do you track your cash? We’d love to hear about it in the comments!

from Shopify Blog – Company

What is cash flow management and why does it matter?

Improving cash flow is a smart move for any business. It doesn’t matter how great your business model is, how profitable you are, or how many investors you have lined up. You won’t survive if you can’t manage your company’s cash flow.

In fact, one study found that 82% of businesses fail due to poor cash flow management skills. If you’re looking for one area to focus on that will have a dramatic impact on your business, this is it.

New and growing businesses often don’t have a buffer of extra cash to get them through shortfalls, because they are always reinvesting. Add to that, years with the most significant growth—including the first few years of a business’s lifespan—are also the most challenging when it comes to cash flow.

Cash flow quickly becomes one of many reasons it’s so hard to get a new business off the ground.

What is cash flow management?

So, what is cash flow exactly? Cash flow is the amount of money, cash and non-cash, travelling into and out of a business. A positive cash flow is more money coming in than going out and a negative one is less coming in than the business needs to cover outgoings.

To calculate cash flow a business takes note of the cash available at the beginning and at the end of a specific period. The time period may be such as a week or a month. The business will have a positive cash flow if there is more in the account at the end of the period than when the period began and less would indicate a negative one.

Getting good at cash flow management is one of the best things you can do for your business. Not only that, it’s a skill you can carry over into other ventures, as well as your personal finances.

We’ve put together a free forecasting template to help you manage cash flow. Access it with this link (or later in the blog post) and keep reading to learn how to use it.

The difference between cash flow and profitability

Defining cash flow management.

Cash flow is not the same as profitability. A profitable business can still be unable to pay its bills. Similarly, just because a business is meeting all of its financial obligations, doesn’t mean it’s profitable.

Profit is an accounting term, which really only exists on paper. Measuring profit is a particular way of looking at a business. It doesn’t tell you a whole lot about how the business is getting by day-to-day.

How to calculate profit

The first step to calculating profit is to take your total revenue and then subtract the cost of the goods sold. The difference is your gross profit.

Revenue – Cost of Goods Sold = Gross Profit

For example, if you sold $100,000 in rocking chairs, and the chairs themselves cost you $50,000 wholesale, your gross profit would be $50,000.

Revenue:                    $100,000
Cost of Goods Sold   -$50,000
Gross Profit:                $50,000

Of course, you would probably have other expenses beyond buying the chairs. For example, you’d need a place to store the chairs, and you might want to run some ads to get more sales. These expenses are called operating expenses, and they get subtracted from your gross profit.

Operating expenses include most costs that don’t directly connect to what you sell—things like rent, equipment, payroll, and marketing.

The second step is to subtract operating expenses from gross profit. The difference is net profit.

Revenue:                    $100,000
Cost of Goods Sold:  -$50,000
Gross Profit:                $50,000
Operating Expenses: -$35,000
Net Profit:                    $15,000

If your net profit is a positive number, you made money. If it’s a negative number, you lost money. This report as a whole is called the income statement or profit and loss (P&L).

The ‘problem’ with profit

The problem with income statements is that they don’t show your whole business. A few essential pieces of information are missing.

1. Debt repayment

If you have any business loans or other startup capital to repay, it won’t show up here. Only the interest on those loans is included on a P&L, even though debt repayments can eat up a lot of cash.

2. Equipment payments

Similarly, if you make a significant equipment purchase, the entire cost will not show up in this section. Instead, that cost will get spread out over the lifetime of the equipment. If you spend $100,000 on a canning line and you think it will last you ten years, your income statement will show an expense of $10,000/year for ten years, even if you had to pay all of it upfront.

3. Taxes

Note that your net profit isn’t taxed at this point, which means will shrink even more. Even if all of your profit is available in cash, you won’t be able to run out and spend it all in one place.

4. Cash received

Finally, many businesses use accrual accounting, which records revenue even if you haven’t received the money yet. On paper, you might have $200,000 in sales, but if no one has paid you yet you’re still going to have a hard time paying your bills.

Further, if you carry inventory, all that product has value and gets included on your income statement as well. Of course, to extract cash from your inventory, you need to sell it first.

Cash flow is all about timing

Ultimately, cash flow comes down to timing. You may be profitable over the course of a month or year, but not a specific day or week. If your bills are due at the beginning of the month, but you won’t have any money in the bank until the end of the month, you’ve got a cash flow problem. Even if at the end of the month, you made more than you spent.

Here’s the deal with profit: If you’re not profitable on paper, you’re in bad shape. You need to either increase your revenue or decrease your expenses if you want to stay in business.

But just because you’re profitable, doesn’t mean your business can run on autopilot. You still need to watch your cash—especially if you’re growing.

Why cash flow management is important

Although it may seem intimidating, there are clear benefits to understanding cash flow and prioritizing effective cash flow management.

1. Predict shortfalls

The first and most obvious benefit to managing cash is knowing ahead of time when you’re going to have shortfalls. Don’t find out you can’t make rent after the check bounces. With a good system in place, you can predict shortfalls weeks, and sometimes even months ahead of time, which gives you time to come up with a plan. For example:

  • Call your landlord and ask them to cash your check a few days later
  • Delay a shipment by a couple of weeks to put off paying duty at customs
  • Run a promotion to drive additional sales quickly
  • Go on a collection to spree to clear up outstanding bills

2. Reduce stress

Believe it or not, obsessing over cash flow will alleviate a lot of stress. Much of the anxiety entrepreneurs experience around paying bills comes from not knowing what’s going on and worrying about whether or not it will work out.

It’s much better to know what’s coming, even if the outlook is not good. When you know where you stand, you’ll feel prepared. More importantly, you’ll be equipped to deal with it.

3. Know when to grow

When you’re keeping an eye on cash flow, you know exactly how much money you have to spend on growth. Remember, just because your P&L tells you there’s extra money lying around, doesn’t mean it will materialize in real life.

Similarly, just because you have $20,000 in the bank, doesn’t mean you can spend it. You might need it to pay for upcoming expenses. When you look at your cash flow over weeks and months, you’ll know how much keep on hand, and how much you can stash away or spend on growth.

4. Gain leverage

Good cash flow management gives you leverage. If you need a line of credit from the bank to get you through a shortfall, or you want to get a supplier to give you a break for a few weeks without interrupting service, a good cash flow system will back you up and establish trust.

Banks generally like to see this kind of planning, especially if you can clearly show when you’ll be able to repay the funds. Suppliers are much more likely to be flexible if you can tell them exactly how you’ll pay and when—rather than cutting communication like most businesses do during tough periods. These people want your business and will be more willing to work with you through the ups and downs if they can trust you.

5. More accurate

Cash flow is significantly more accurate than a budget. Budgets tell you what you want to happen. They’re wishful thinking and entrepreneurs are optimistic by nature. Cash flow projections tell you what is actually happening so you can deal with it—even if it’s not what you planned at the beginning of the year.

Most of us (myself included) would often rather not think about cash flow and just hope it all works out. But it’s not worth the risk. You really will feel better by staying on top of your money.

How to forecast and manage cash flow

Creating a cash flow projection for your business.

There are many paid tools out there to help you manage cash flow. Personally, I think the free one is the best one: Google Sheets. Anyone can use a Google spreadsheet to create a cash flow statement. Although it’s a manual process, it doesn’t take long to set up, and it’s easy to track.

More importantly, it’s easy to customize on the fly and adapt to your specific needs or situation. You can be as broad or specific as you want. And the time you spend creating and updating your spreadsheet is valuable for gaining a clearer picture of your situation.

The cash flow spreadsheet is an outline of where your cash is going. It shows you when cash will be coming in, and when it be going out, and it’s a great way to visualize cash flow and adjust your approach.

What is a cash flow statement?

A cash flow statement is an account of the cash flowing into and out of a business over an accounting period, such as a month, quarter or year, although you can track cash flow for any time period that helps you see where your money is going. The statement shows you how the business used the cash generated during the time that the report covers.

Most businesses work best by planning week-to-week; however, some may need daily, others only need monthly. It’s also up to you if you want to include every single expense or just categories of expenses. These decisions will depend on the scale and complexity of your business.

Similarly, some businesses will be able to project their cash flow accurately for six months, others only two weeks. In general, try to project four to six weeks with reasonably accurately. A good rule of thumb is that the farther you are into the future, the less accurate your predictions will be.

Step 1: Forecast expenses

The first step is to lay out all your ongoing financial obligations. Start by making a list of all the things you have to pay for—rent, salary, advertisements, software fees, loan repayments—anything that comes out of your bottom line.

Write down what the expense is for, how much it is, and when it’s due. You’ll likely forget a few things, so review your bank and credit card statements to see what other expenses you find.

Step 2: Forecast revenue

Next, it’s time to forecast your weekly revenue. Many businesses experience fluctuations in sales so it can be a bit of an art. Try to be as accurate as possible. The more established your business becomes, the easier it will be.

Start by writing down any guaranteed revenue. If you sell subscriptions or have long-term contracts, you’ll have a good idea of what’s coming up. You can estimate if those numbers are going to go up, down, or stay the same. If a large portion of your sales come from first-time customers, it will be more difficult to estimate. Still, you should have a good idea of what to expect over the coming weeks and months. The closer you can get to reality the better.

One thing that helps with projections is to look at past data. In many cases, your sales from this week one year ago will be more accurate than your sales last week, because historical data takes annual cycles and seasonality into account. If you believe your sales will grow over last year’s, you can increase the amount, but it’s important to be conservative to avoid ending up in a bad situation.

As you forecast revenue each week, be mindful of any dips in sales due to holidays or the time of month or year, as well as any promotions or major deals that will positively impact your revenue.

Step 3: Plug in your data

Now comes the fun part. It’s time to fill in your data. First, grab your free copy of the cash flow projection template. Use it customize a row for each expense and each revenue source. You can be as detailed or broad you need to be.

Grab a copy of our cash flow spreadsheet.

If you sell a bunch of products on one website, you may only have one source of revenue. If you use multiple channels such as web, retail, and trade shows, you might want to have a line for each because it will be easier to predict.

Make sure you add revenue to the week it will become available to you. Keep in mind that it may take a few days to end up in your bank account.

Similarly, fill in your expenses. Some will be weekly, some bi-weekly, some monthly, some variable. You’re also going to have a lot of miscellaneous expenses popping up. Use the row labeled “Other” to work these into the spreadsheet.

Add your opening bank balance for the first week. The following weeks will be predicted automatically based on your revenue and expense projections.

Step 4: Update your projection spreadsheet

Your cash flow spreadsheet is a living document. If you keep it as a Google Sheet, it will be available anytime, anywhere. You’ll also be able to easily share it with someone else such as your accountant or another employee.

A good cash flow spreadsheet is updated on a regular basis. Once a week, log in and update your closing bank balance. If it doesn’t match your previous calculations, it’s a good idea to figure out why. Sometimes expenses you forgot about pop up, or you realize you may have been too optimistic in your revenue projections.

Next, hide last week’s column. You won’t need it anymore since it’s in the past.

Hiding a column in the cash flow spreadsheet.

Finally, add a new week of projections in the last column. You always want to have a minimum of four to six weeks laid out so you can plan ahead.

Any time you’re projecting a shortfall, the closing bank balance will alert you by turning red, which prompts you to make some changes. In the template provided, you can see that a shortfall is predicted in the third week.

Full view of the cash flow template.

By knowing this ahead of time, this company could contact their product supplier and renegotiate their next payment. Instead of paying all $5,000 that week, they could ask to pay $3,000 and settle the remaining $2,000 the following week.

Access our free cash flow projection template

If you haven’t already, don’t forget to grab your free cash flow template. Just click on this link, and you can access the spreadsheet in Google Drive. You’ll need to be logged into your Google account to make a copy.

Most companies cannot survive without proper cash flow management. But anyone can do it. Take the time to get organized now, and it’ll be easy to stay on top of it.

How do you track your cash? We’d love to hear about it in the comments!

— This Article First Appeared on The Shopify Blog — Looking For More Awesome eCommerce Tidbits and News? Follow Bill Jones on Twitter @dwilliamjones — Stay Awesome!

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