It sounds counter-intuitive but it is possible to run a profitable business and become insolvent. Insolvency being when you are unable to pay your debts as and when they fall due, or in other words…you run out of cash and can’t pay people when you need to. If you are concerned about if you are solvent or not you should speak with your accountant or CFO straight away, as it is illegal to trade when insolvent.
Monitoring your cash flow (present and future needs) is ultimately more important than the profit you report. Here are some traps and tips to keep your cash flow as well as your profit in mind.
Traps
Tips
Monitoring your cash flow (present and future needs) is ultimately more important than the profit you report. Here are some traps and tips to keep your cash flow as well as your profit in mind.
Traps
- Not collecting payment from your customers in a regular and timely manner
- Continuing to service customers who are not paying your outstanding invoices
- Having too much debt (high interest payments eating away at your profit margins)
- Having too much money tied up in stock or other inventory
- Not planning for non-regular expenses or months of low income
- Failing to put aside enough cash to pay for tax & other statutory obligations such as GST/Payroll/Income Tax/Superannuation
- Not having money set aside to cover yourself in a downturn caused by either expected or unexpected events
- Being heavily reliant on one or two suppliers or customers
- Not having adequate or appropriate insurance
- Growing too quickly through investing cash in purchasing goods/equipment and paying staff well before customers can be invoiced and their money collected
- Making major business decisions without fully considering the time and money resource impact on your current operations and cash flow
- Neglecting to set aside funds for maintaining your assets and equipment
- Failing to have proper accounting controls in place increasing your risk of being exposed to fraud
Tips
- Set aside cash to cover your standard operating expenses for a predetermined period of time to allow you time to respond to unexpected events.
- Remember to plan ahead for cash needs to cover your capital/asset needs as well as your day to day operational expenses
- Keep your eye on your Current Ratio (Current assets divided by Current Liabilities). Make sure it is always above 1! Somewhere between 1.5 and 3 is considered normal depending on your industry
- Keep and maintain a regular cash flow forecast along with your other regular financial reporting and make sure you are factoring in fluctuations in cash needs for those large annual bills (such as insurance), as well as your more regular payroll and other operational and tax obligations
- Have a business plan and financial model for your business that factors in the impacts of any planned changes. This scenario analysis can save you from costly mistakes and help you develop your idea, if needed, to make sure it can work financially as well as strategically and operationally
- Have an expert review your financial position, internal controls and management reporting pack to ensure they are adequate for the size and complexity of your business
- Consider if your business would benefit from the support of an outsourced CFO