After years of helping clients, we've found that the most common small business mistake is poor cash flow management. Cash flow is one of the key financial documents you should monitor and keep up to date. Your accountant can help you. QuickBooks or other software can do it for you. If both make your head spin, we can help you too.
Every business has ups and downs when it comes to cash coming in. Customers pay late. Things get delayed. Projects start late. The problem is we all have monthly costs, such as rent, payroll, etc. going out regardless of how much is coming in. That's what results in people living paycheck to paycheck, or being forced to be overly thrifty with their money. Cash flow management is developing a strategy that creates a buffer so you always have enough to weather these fluctuations.
The most common small business mistake owners make is that they don't understand their cash forecast, and business can be going very well, but you can run out of money
-- Karen Mills, the former administrator of the U.S. Small Business Administration (SBA) during President Barack Obama's presidency in Yahoo Finance
In 2017, small businesses created 1.7 million new jobs. That number rose to 1.9 million in 2018, and another 1.9 million in 2019. There are nearly 31 million small businesses in the US, which employs about ½ of the US workforce. When cash flow falls apart and you face this mistake, your small business is more likely to fall behind. Karen Mills hit the nail on the head when she said that small businesses "...create a path to the American dream, so it's not only part of the economy, but it's part of economic mobility."
Here are four easy tips to learn how to easily combat this mistake in your small business.
What's a billing cycle? It's the average time between the date you send an invoice and the date the cash is available in your bank. Available is important because it can take a band 1-2 business days to clear a check. During that time, that cash is NOT available for you to use. Typical billing cycles are between 40-70 days. Cash flow is important for most aspects of business management
In an ideal world, you would have enough cash on hand to cover your expenses over your average billing cycle. In plain English, you should have enough money in the bank to cover 2 to 3 months of expenses. Now, no one lives in an ideal world, so what can you do?
For many, this takes the form of a line of credit. A line of credit is when a bank agrees to loan you money up to a fixed amount. The interest rate is usually variable, meaning it is set based on the Federal Reserve rate plus some fixed percentage. You would treat this as a regular loan, with TWO major advantages. First, you take only the amount you need. Second, you can pay it off early
early without penalties. Most term loans are lump-sum payments. They also tend to carry early payment penalties. This is why lines of credit are much more preferable to loans when dealing with short-term cash flow problems.
Lines of credit are hard to get. You need stellar personal credit. Plus, you need to be in business for at least 2 if not 3 years. We've gone into depth about the challenges you face getting loans and how to avoid them. So if you can't get a line of credit, your best bet is to get a term loan. It's not ideal, but it's better than running out of cash. However, if you don't qualify for a line of credit, you're not likely to qualify for a term loan.
We review the alternatives in our post 'Denied a Small Business Loan? Try Alternative Lenders'. But always remember, the time to ask for a loan is when you have money in the bank. Don't wait until you have a cash flow emergency to do it, and NEVER take a merchant cash advance. You'll only make your problems worse.
...to avoid the most common small business mistake, always keep your cash flow forecast up to date. We know that's more easily said than done, and that it pulls you away from doing what you love. Fortunately, you can turn to us for help.
Brian Cairns, CEO of Prostrategix Consulting. Over 25 years of business experience as a corporate executive, entrepreneur, and small business owner. For more information, please visit my LinkedIn profile