Strategy & Planning

Managing the lifeline of your business – cash flow and working capital management

Managing the lifeline of your business – cash flow and working capital management

What the terms actually mean and how to keep the lifeblood of your business flowing energetically

It is vitally important that business owners and managers fully grasp the concept of cash flow management and understand that the timing of cash flows can determine whether a business will thrive or perish. There are various strategies and tactics that come into play to successfully manage cash flow or working capital management as it is also commonly known, and these need to be deployed every single business day. So let’s first look at what makes up working capital, how it is best managed and why it is so critical to business success…

Understanding working capital management: money today to make money tomorrow!

Working capital is the sum of all the items on the balance sheet that includes cash, short-term debt, investments, inventory, debtors (receivables), payables (creditors) and so forth. So the management of working capital involves managing inventories, accounts receivable and payable, and cash to maintain adequate levels of networking capital – the difference between all the current assets of the business and
its current liabilities.

Keep in mind that current assets have a short life span and that they should be quickly transformed into other asset forms. For example, cash is used to acquire raw materials or supplies and these supplies or materials are converted into a finished product, service or marketed proposition. Those that are sold on credit are converted into account receivables and finally into cash when the payment for them is received.

The everyday control of working capital is often referred to as cash flow management, cash management and/or liquidity management.

A business can have plentiful assets on its balance sheet and good profitability, but if it is short on liquidity because its assets cannot readily be converted into cash then it will quickly run into problems. Positive working capital is required to ensure that a firm is able to continue its operations and that it has sufficient funds to satisfy both maturing short-term debt and upcoming operational expenses. Therefore, the
effective forecasting, budgeting, planning, tracking, reporting and management of current assets and liabilities is critical and is what is referred to as working capital management.

A business owner or manager’s ability to forecast, budget, plan and monitor the flow of liquid resources will determine whether the business will exist and survive, thrive and prosper.

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The cash flow management watch list

Monitoring and management of “liquidity” of the moving parts of the business machine will be critical to success and could include any or all of:

• Day-to-day cash control
• Money at the bank
• Receipts
• Payments
• Short-term investments and borrowings
• Provision of bank accounts
• Deposit / withdrawal facilities
• Provision of information regarding bank accounts and positions
• Money transfers and collection services
• Investment facilities
• Financing facilities
• Pooling and netting

The fundamental principles of working capital management are reducing the capital employed and improving efficiency in the areas of receivables, inventories, and payables.

And – as the figure on page 48 so clearly illustrates, from a business owner or manager’s perspective – your role as a principal in the business means you need cash management skills that are multi-dimensional and highly inter-dependent:



A business can have plentiful assets on its balance sheet and good profitability, but if it is short of liquidity because its assets cannot readily be converted into cash, then it will quickly run into problems.”

– Aseop
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So why is cash flow management important?

There are many reasons why cash flow management is critical for the existence of your business:

Manage risks – Your business might be making profits but you can be forced to exit or close up shop if you run out of the cash needed to pay debts or any of the other operational needs of the business.

High levels of investments in current assets – Investments in current assets form a significant part of overall investments. Therefore, managing working capital optimally will determine if the business is going to exist and survive, thrive and prosper.

Using current liabilities to fund a small business – Most small businesses fund the operational aspects of their businesses through the current liabilities. Managing it optimally will determine whether you have a business or not!

High opportunity costs – If you do not manage your working capital well, you might not have the requisite cash flow to take advantage of new growth opportunities, special discounts or increased customer demand. In other words, there is a huge opportunity cost if you do not manage your working capital effectively.

Ability to fund the running of a business – Adequate working capital is required to ensure that your business is able to continue its operations and that you have enough funds to pay maturing short-term debts, meet the payroll, and have enough reserves for all the other ongoing operational expenses.

Increase overall free cash flow – Optimizing working capital results in the availability of liquidity and thereby an improvement in your overall free cash flow which can be used to pay dividends to investors, to pay off debts and/or reinvest in the business.

Reduction in expenses – Optimal working capital management will lead to a significant reduction in inventory and borrowing costs, thereby further increasing profits and liquidity for “upside opportunity” investments and debt reduction.

A strengthened balance sheet gives increased stakeholder confidence – A strengthened balance sheet for your small business will mean that your suppliers, customers, lenders, investors and even your employees will have increased confidence in your business. Countries across the world are currently fighting with this very same issue, with economic uncertainty forcing downgrades of their credit rating by the rating agencies.

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Strategies and tactics to optimize cash flow and/or liquidity

Before getting into the strategies and tactics that can be utilized to optimize cash flow management, it is important to understand the concept of “float”. Afloat cost is any delay in the process of converting materials, labour and services to receipt of payment. Similarly, any delay in making payments to your suppliers will also give rise to float. Note that this is advantageous to a small business (up to a point).

Float is money we hold, but we don’t own.”

Warren Buffet, investor

So float is simply ‘the difference between book cash and bank cash, representing the net effect of cheques in the process of clearing’. In other words, afloat is a time lost between a payer making a payment and a beneficiary receiving value.

So what are the strategies and tactics to manage business cash flow? In simplistic terms, cash flow can be as simple as making sure that the business has enough profitable revenues. But one of the primary reasons a company often creates an environment of cash crunch is due to the lack of understanding of the “timing” element. Achieving higher revenues than expected sales is useless if you can’t pay your bills during the time it takes for the proposition to be crafted and sold in the market.

There is no one single solution to managing cash flow, though each of these will help you develop the skills that are necessary:

Manage owner and management compensation – For some small businesses, the owner’s and management team’s compensation is often a large portion of the business’ expense – especially in the formative years of a business, the owner’s draw can be a big burden on the cash flow of the business. That is why secondary incomes are valuable to the success of many small business ventures, especially in the early years.

Manage overheads – Cut out excess overhead expenditures. Good spending discipline should keep unnecessary expenditures to a minimum, but good cash flow management should help to virtually eliminate excess overhead expenditures. Bad spending habits are often picked up when cash is plentiful.

Cash flow information system and processes – You need to ensure that your financial information is maintained, stored and monitored in a manner that allows you to make the necessary adjustments for your small business. Therefore develop a good information system. Continual cash flow management is only as
good as the information on which it is implemented. A record-keeping system that provides information useful in making decisions regarding cash inflows and outflows is essential.

Planning and forecasting capabilities, processes and systems – A SME owner or manager will need to be able to plan and forecast optimally anticipated sales and expenditures. This is often overlooked.

Rent or lease versus outright buy – Consider cash saving activities such as renting versus buying and used equipment versus new.

Understanding cash flow peaks and troughs – You must know the timing and sizing of your cash in and cash out peaks!

Limit overdue accounts due to the business – A small business must limit the money that is owed to it. In other words, get people to pay their bills. Overdue accounts receivables can pull down a business. One way to address this problem is to keep credit current and at a minimum. This is often a bigger task than it may seem.

Manage your credit risk – Caution should be taken when credit is first extended to customers.

Give incentives for on-time and advance payment – Consider giving discounts for advance payments and incentives for payments made by the due date.

Tight inventory management – Keep a close eye on inventory. Product sales and inventory management are complex issues that can be likened to the “chicken and egg syndrome”. A business needs enough inventories to fill orders in a timely manner, but adequate sales are needed to minimize inventory. Inventory includes finished products held for future sales as well as raw materials held for future production. Both types of inventory represent cash that has been spent but that has not generated a return. Get rid of or sell inventory items that are just gathering dust at a discounted price.

Timely billing and collections – Maintain tight reins on billing and collections. Because cash flow management is so closely tied to time (cash flows), the time lag between shipping finished products and receiving payment need to be minimized. The time lag issue must be aggressively addressed by collecting
payments and sending invoices in a timely manner. Consider daily, weekly or fortnightly invoicing rather than monthly or bi-monthly invoicing.

Optimally structuring payments to creditors – Consciously structure the payment of your bills. Electronic deposits and delayed payment of bills can improve cash flow problems. However, there is often a fine line between delayed payments and late payments. Crossing that line and incurring additional costs for late payments is normally not a good cash flow management procedure. Discounts on bills should be evaluated, i.e. consider discounts that offer less than the amount you save by delayed payments. All non-discount bills should be delayed as late as possible without compromising good relations. Do not hesitate to take advantage of the credit offered by suppliers and feel free to negotiate for more favourable terms.

Issue monthly paychecks for employees – Consider bi-weekly or monthly paychecks. Bi-weekly and monthly payrolls allow the business to hold onto money longer. It also allows for the less frequent deposit of associated payroll and other taxes.

Monitor your customers’ payment patterns – Monitoring certain customers may provide insight into their payment schedule. An SME should consider dropping or implementing new payment procedures for customers who continually pay late.

Evaluate new customers from a cashflow perspective – When taking on new customers, consider implications on cash flow as part of the evaluation criteria, not just increased sales. Payment terms influence potential customers, but be cautious not to offer over-generous payment terms.

Automation and outsourcing – Consider your operations and manufacturing if automation is better than using your own labour. Other considerations include considering giving a part of your operations to subcontractors versus manufacturing or servicing all aspects of the production or operations internally.

Differentiate your customers – Segment and differentiate your cash and quick paying customers versus credit and late payers.

Business agility to adjust – The business should have the capability, the willingness and readiness to make adjustments to the business and financial operations.


Cash flow management is one of the most fundamental issues that a business will have to grapple with. Mismanaging the timing of cash flows or misunderstanding their relevance will determine whether your business will thrive or perish. Remember that money makes money. More importantly, money today makes money tomorrow!

As an unnamed entrepreneur once famously said: “The fact is that one of the earliest lessons I learned in business was that balance sheets and income statements are fiction, cash flow is reality”.

So remember, “Happiness is a positive cash flow”! 
The business growth hacker

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