Managing cashflow effectively is essential for businesses of all sizes, whether they are small and medium-sized enterprises or global corporations. The fundamental principle of business, irrespective of all else, is the fact that the company must generate more revenue after tax than it spends bringing goods and services to market. In times of economic difficulty, this becomes a more difficult challenge, even for the most successful firms. So it is crucial that business leaders and the finance department have their eye on the ball at all times, and a strategy in place to keep the balance sheet under control.

While the activities of small businesses are inextricably linked to their cashflow, larger organisations tend to have greater leeway where finances are involved. If they have significant capital reserves and a positive reputation in the credit markets, it is easier to borrow money to fund major capital investments. Such businesses can use credit to expand into new markets, introduce new markets, acquire rival firms and undertake any other action designed to ensure their long-term growth and prosperity.

But while a company's relationship with the bank is all-important, business leaders should never look beyond the relationships formed with consumers as they plan expansion strategies. If customers fail to respond positively to new products or services, the business is left facing an inevitable loss. And if revenue channels dry up, this means depletion of cash reserves, difficult conversations with lenders and general uncertainty going forwards. Once a business experiences difficulties with cashflow, problems cannot help but spread throughout the organisation.

Balancing costs with income

As Business Link explains, in order for any company to run effectively, it is vital to balance the timing and amount of costs with those of income. Businesses need to have cash available at all times - and this doesn't include monies owed, stocks or assets which cannot be easily withdrawn. "In order to make a profit, most businesses have to produce and deliver goods or services to their customers before being paid," Business Link says. "So it is essential to control your cashflow so that you always have enough cash available to pay your staff and suppliers before receiving payment from your customers. If not, you'll be unable to meet your customers' requirements or receive any profit."

Business Link noted that income and expenditure cashflows rarely occur together - with cash inflows often lagging behind. As such, it is important for companies of all sizes to maintain enough cash in their business to deal with day-to-day running costs. "Your aim should be to speed up the inflows and slow down the outflows wherever possible," the advice portal states. "Many of your regular cash outflows will need to be made on fixed dates. So you must always be in a position to meet these payments in order to avoid large fines or a disgruntled workforce."

Increasing sales is the easiest way to boost cashflow, but this is not something a company can ever guarantee. For reasons entirely beyond their control - such as the wider economic picture, the weather, and calendar quirks - customers may simply choose not to spend. But there are other ways businesses can improve their cashflow, such as asking customers to settle invoices earlier, chasing debts promptly and firmly, using factoring, asking for extended credit terms from suppliers, and ordering less stock but more often.

"You can also improve your cashflow by borrowing money, or investing more money into the business," Business Link notes. "This can help you cope with short-term cash problems or fund short-term growth, but it is important not to rely on these in your cash strategy."

The importance of cashflow forecasting

In order to make sound economic and strategic decisions, businesses need to have some understanding about how cashflow rises and falls over the course of the year. Cashflow forecasting is important in this sense, as it allows businesses to predict peaks and troughs in their cash balance. It also helps firms plan how much and when to borrow, and understand how much capital they are likely to have available at any given time. As Business Link explains, the cashflow forecast identifies the sources and amounts of cash coming into a business and the destinations and amounts going out over a given period. There are normally two columns, listing forecast and actual amounts.

The forecast is usually done for a year or quarter in advance and divided into weeks or months, but in difficult cashflow situations, a daily cashflow forecast might be useful, Business Link adds. The forecast should list receipts, payments, the excess of receipts over payments, and the bank balances at the start and end of the period, Business Link notes. "It is best to pick periods during which most of your fixed costs - such as salaries - go out," the advice portal claims.

Most important for businesses - particularly in the current economic climate - is that they are realistic in their forecast. Separating cashflow for business operations from funding cashflow may provide a clearer picture of the actual performance of the firm, as this can help gauge how self-sufficient the day-to-day working of the business is. A net outflow in operational cashflow is usually an indicator of problems that need to be addressed quickly, Business Link says.

"An adaptable cashflow forecast can be an invaluable business tool if it is used effectively," Business Link adds. "It's helpful to set up a regular review of the forecast, changing the figures in light of your sales, purchases and staff costs. Legislation, interest rates and tax changes will also impact on the forecast." Having an accurate cashflow forecast enables businesses to see when problems or cash shortfalls are likely to occur and work to avoid them. "It will also enable you to prepare fully for growth by planning when and how much to invest," Business Link says.

Conclusion

In the current economic climate, business leaders are sure to be closely monitoring the books and looking for ways to make savings without jeopardising revenue. Appreciating the seriousness of the economic situation, it is likely that funding, time and expertise are being channelled into financial management to ensure organisations safely negotiate what has been a fairly protracted downturn.

As and when business begins to pick up, companies need to remain focused on financial management. Even if companies see an increase in sales and turnover, this can be short-lived if the wrong strategic moves are made. As such, it is crucial to keep cash stores and operating accounts healthy - to account for every eventuality. Business casualties are seen at all times - not merely in the depths of recession - but strong money management can reduce the risks. At the very worst, this can serve as an early alarm system, enabling companies to formulate an appropriate response.