Protecting cash flow
November 4, 2013 by Brynna Leslie
Learning to manage cash flow is one of the most important things you’ll ever learn as a business owner. Cash flow mismanagement can very likely sink you. And it’s not just a problem for small companies — almost every major airline that’s declared bankruptcy has cited lack of liquidity as the catalyst.
“Not having enough cash at the proper time has been the death-knell to many a profitable company,” says Victoria Downing, president of Maryland-based Remodelers Advantage. This is especially true in an industry with a lot cash flow demands, but thin profit margins.
Part of the problem, says Downing, is that business owners frequently confuse cash flow and profits. Much of it comes down to the ebb-and-flow nature of the contracting business.
“Months of heavy construction volume means you have the need for lots of cash to pay your labour and job costs,” Downing explains. “You may be earning profit, but you’re not seeing it yet.”
Just as a dip comes in the work cycle, you start collecting all the money from your last jobs and your bank account feels “flush,” says Downing. With all that money rolling in, it’s hard not to feel like you’re making big profits.
PROFITS VS. REVENUES
It comes down to understanding the difference between profits and revenues, says Mike Draper, a business coach for Renovantage.
Revenues are your “top line,” the total amount of money you collect from invoices. But the “bottom line,” says Draper is the one that many small business owners ignore, often to their peril.
“Contractors need to make sufficient profit on each job so they can cover, not only their direct job costs but, all of the overhead associated with running a construction business,” says Draper. “To do so, each job has to be profitable.”
That means, first and foremost, building profit into every job estimate or proposal.
Once you know the profits are there, you have to be diligent about collecting. Have milestone payment schedules in place from the get-go. If a client can’t pay by a scheduled date, don’t be afraid to stop work on the project until they can. And stay on schedule yourself, advises Draper, because you can’t collect the cash if you haven’t done the work on time.
“You should always get paid before you have to pay vendors,” says Draper. “You’re not in the business of financing your client’s renovation project.”
Managing the payment schedule with suppliers is important, too. Draper recommends using – but not abusing – trade credit where possible. This will often give you 30 days of interest-free credit and “slow down the flow of money out of your company,” says Draper.
Only once you have your cash flow in-hand can you start to think about real, measured and successful growth, says Draper. But whatever you do, don’t feel you have to use your cash to finance it.
“Financing your business from the bottom line is the old school way of building a firm,” says Draper. Taking too much money out of the bottom line, rather than looking for bank financing or growth through partnerships and acquisitions, can starve your business of cash – which may just leave you without a business to grow.