Cash flow is the lifeblood of an organisation. Brendan Flattery, managing director of the Small Business Division at Sage UK, explores why cash flow is so important to businesses and how firms can best manage it.

Put simply, cash flow is the movement of money within a business. But this seemingly straightforward concept can have detrimental effects if badly managed and there are an alarmingly large number of business failures caused solely by poor cash flow management.

The past two years have provided businesses with a very challenging landscape and it is one that will have a lasting impact on the way that businesses structure and manage their operations in the future. The recession has not only hit revenue, margins and sales leads, but has also highlighted areas of weakness within businesses, where more effective processes need to be implemented.

Clearly, a small business will only be able to survive for a short period with a negative cash flow. Entrepreneurs must set up processes which help them to keep a close reign on their cash flow from the moment they are in business. Therefore effective cash flow forecasting can be a very important business tool, that can not only help show payment patterns, but can also highlight reoccurring late payments.

It has been reported by the Department for Business, Innovation and Skills, that more than 4,000 business failures in 2008 alone were caused by late payments. In a recent study by Sage it was revealed that over half of the 1,500 small businesses polled reported that they had been impacted by late payments over the last twelve months.

Getting to grips with cash flow

There are a number of steps that small businesses can take to ensure they are in the best possible position when it comes to cash flow, including:

• Learn about your customer’s habits – Every business sets a date each month for when they pay their invoices. Make a note of when these are for your customers. This will allow you to plan when your firm should pay your suppliers.
• Plan and forecast for the future – By developing accurate forecasts for the year ahead, managers will be able to best plan for the future, in terms of expanding the business and identifying any potential future challenges, such as staff resources.
• Know your customers – Many businesses have a set date for paying invoices, learn when these are for your customers and record the date. If the date passes and you are yet to be paid, then there is a good chance that something is not right and you can follow up with your customer
• Invoice accurately – Incorrect sales invoices aren’t as uncommon as you might think. So stay on top of your credit control and make sure your invoices are completed correctly. Set them up in accordance with HMRC and all relevant VAT requirements and you’ll reduce the amount of incorrect sales invoices sent to customers
• Set clear terms and conditions – Although diplomacy will be needed with certain customers, be strict with your payment terms and don’t be afraid to use a solicitor to demand payment

Small businesses need to put into practice the correct processes that can help manage their financial planning effectively. Forecast the year ahead and identify potential cash flow issues early enough so that action can be taken to avoid any downturns or dips expected within the firm.

More effective cash flow management will help to stabilise the business as well as ensure the firm is in the best possible position to take advantage of the upturn.