Why a profitable business doesn’t always mean a healthy cashflow

The definition of cashflow is simple. It refers to the cash flowing in and out of your business during a specific period of time. Cashflow is an indication for the financial health of a business and determines whether a business can pay its current liabilities.

Considering and keeping a close check on your business’s cashflow is crucial. A healthy cashflow enables you to pay for ongoing commitments such as employee wages, supplier payments and routine monthly costs. It also allows you to invest in the future of your business on top of these payments. It is easy to assume that a business is healthy if it is profitable, however even very successful businesses can find themselves in a difficult position if they have an unhealthy cashflow. There are a number of reasons why although being profitable is important, having a healthy cashflow should be prioritised too…


If they are growing too fast

Although it may on the surface sound like a positive, businesses that quickly become successful can face a number of problems if they grow too fast. Seeing the cash flow through the business is great, but when it comes to managing outstanding payments and responsibilities throughout the business, it can be easy for businesses to get in over their heads. Having a healthy cashflow means that a business is profitable but is also able to keep up with payment responsibilities such as staff wages, rent and supplier payments. Growing too fast can lead to staff shortages, higher prices from suppliers and can also mean that any potential cashflow gap caused by longer credit terms can hinder new contracts or sales, if the resources cannot be paid for. During the initial outbreak of Covid-19 in 2020, many businesses with in-demand services saw a huge spike in orders, in which it became difficult to manage. Some of these businesses were seeing orders go out quicker than their materials were coming in, meaning they were having to pay for new supplies before they were being paid for previous orders.


If they have long credit terms

One of the most common causes of cashflow problems for businesses is the issues caused by long credit terms. When a business extends longer terms to its customers than it receives from its own suppliers, a cashflow gap appears during the difference in those payment terms. These longer credit terms are more common in sectors such as manufacturing, recruitment, printing and haulage and can very often lead to late payments. In these sectors, it is often the case that businesses allow their customers credit terms of 30, 60 and in some cases even 90 days to pay for their services. This can create problems when the business has other payments to make such as rent for premises, wages for employees and other overheads. When this cashflow gap happens, it usually means that cash is going out of the business faster than it is coming in. This hinders businesses as they become unable to focus on development such as new contracts and sales, and are instead focused on chasing customers for late payments.


If there is mismanagement of cashflow

Keeping track of cashflow may seem like an obvious point, but it can be surprising how many businesses mismanage their cashflow forecast, meaning gaps can arise throughout the month. A cashflow forecast can allow businesses to track money coming in and out of the business each month and allow plans to be made around this. This is a good way for businesses to ensure that they don’t stumble across a huge gap in their cashflow, potentially having detrimental effects on the business.


Sometimes it is not as straight forward as managing cashflow more efficiently. As we have learnt with the last two years, anything can happen that can put businesses into disarray, and it can mean even the most planned and efficient businesses are faced with unavoidable cashflow problems. It may also be that longer credit terms cannot be avoided in a number of business sectors and many are as a result faces with late payments. There are a number of methods that businesses can use to put themselves in a better position and avoid that potential cashflow gap.
 

Funding the cashflow gap with Skipton Business Finance

At Skipton Business Finance, we provide a range of Invoice Finance solutions to support businesses in their journey. Invoice Finance allows businesses immediate access to the money tied up in outstanding invoices instead of waiting 30, 60 or even 90 days to be paid. This means that businesses can focus on the future of the businesses rather than being hindered by late payments.

We have supported countless businesses achieve their goals with our funding solutions. Don’t just take it from us! Hear what they have to say here.

 

Find out about our cashflow solutions: