It can be stressful for small business owners to find themselves short of cash. After all, the flow of currency is the lifeblood of a successful business. When cash stops flowing, the company stops growing.
For many small business executives, cashflow problems seemingly arise out of nowhere. For instance, the company’s financial statements may show growing sales revenue and higher profits which should translate into positive cash flow, right? Not necessarily. Growing sales and profit will produce positive cash flow over the long-term but can result in negative cash flow in the short-term.
For example, if I pay $15 cash for a widget today and sell it to you for $30 to be paid in 30 days, I earn a $15 profit. As a result, my sales revenue increases by $30 and my profit increases by $15, but my cashflow until you pay the invoice in 30 days is negative $15.
Cash Flow Problems the Leading Cause of Small Business Failure
According to a 2017 study, 82% of small business failures experienced cash flow problems. That means that most small business executives didn’t realize the depth of their cash flow problems. Or couldn’t access sufficient business financing to continue to be a going concern.
Outflows of cash exceeding inflows for a period can signify serious problems or outstanding opportunities. The key is to determine whether it’s a pricing and/or expense issues resulting in negative profit and cash flow that signify problems. Or a working capital issue caused by growth and/or inefficient cash flow management that signify opportunities.
5 Signs You Need Small Business Financing
#1. Your Profit/Loss Statement Continually Shows a Loss
This may seem obvious, but some entrepreneurs believe they can “will” their company to profitability. That if they just keep increasing revenue, they’ll eventually reach profitability. This strategy can and does work for well-capitalized companies. But most small businesses aren’t well capitalized. So, what are the options?
Your initial step is to determine the urgency of your cash flow situation. If a financing is urgently needed to complete an order, make payroll, or pay an important supplier, then a fast injection of cash may be your first choice in the short term. But the long-term issue of profitability must be analyzed and addressed, or you’ll fall into debt dependency and ultimate failure.
#2. Rapid Business Growth
Most wouldn’t think that booming sales and profit could be a detriment to cash flow problems. But a company without sufficient working capital to expand can find itself struggling to pay its debts. The idiom “It takes money to make money” applies when it comes to business expansion. Managing business growth may require additional investment in staff, supplies, larger premises, equipment, and so forth.
As Tim Berry relates in Entrepreneur, “Growth sucks up cash. It’s paradoxical. The best of times can be hiding the worst of times. One of the toughest years my company had was when we doubled sales and almost went broke…It’s a matter of working capital. The faster you grow, the more financing you need.”
#3. Too Many Slow-Paying Customers
Most small companies aren’t in a position to dictate payment terms to their customers unless they have a monopoly. Large companies, in particular, are known to stretch payment terms to small- and medium-sized businesses. They communicate “if you want the business, these are the payment terms.”
Fortunately, there are several options to turn accounts receivable into cash faster:
- Offer a customer discount for early payment.
- Negotiate a down payment for large orders/projects.
- Negotiate progress billings on large orders/projects.
- Apply for a short-term business loan or line-of-credit as a bridge financing solution.
- Sell your accounts receivable at a discount to an invoice factor.
Finding ways to turn accounts receivables into cash faster will help resolve cash flow issues.
#4. Too Much Inventory in Stock
It’s ideal that when a customer wants to buy something, you have it in stock. But slow-moving inventory can put a strain on cash reserves. Start-ups often experience this situation until they get a handle on what their customers want to purchase. Purchasing inventory at a bulk discount can also put stress on working capital.
There are several options if you have slow-moving inventory:
- Have a blow-out sale for slow-moving items.
- Find an inventory liquidator to turn static inventory into cash.
- Arrange inventory financing for bulk purchases.
- If it’s urgent, apply for a short-term business loan or line-of-credit until you can turn the inventory into cash.
Like currency, inventory needs to flow to produce profit. Every dollar invested in stagnant inventory, is one less investment dollar for profit-making.
#5. Critical Equipment Needs to be Replaced
Whether it’s production machinery, a point-of-sale (POS) system, or a delivery vehicle, its important to have equipment running efficiently. It may become obvious that replacement is needed by excessive repair costs being incurred. Without enough cash reserves, the need to replace essential equipment can lead to panic-stricken executives. Again, there are several options for cash-strapped businesses:
- Contact an equipment leasing company to see if you can arrange to lease the equipment.
- Arrange for a long-term business loan using the equipment purchased as collateral.
- Apply for short-term bridge financing to purchase the equipment while investigating long-term options.
Since our childhood, we’ve been told to keep a “rainy day fund.” To have some cash available to deal with the uncertainties of life. But as we’ve discussed above, that’s not always possible when trying to run and grow a business. As businesspeople, we need to look for the early signs that can lead to failure. What separates business success from business failure is how quickly we recognize and respond to the challenges we’re faced with.