Frequently, small businesses are so focused on creating or growing sales that they forget about the cash element.
When sales are created, customers can either pay cash — using a debit or credit card is the same as receiving cash even though there is a convenience fee charged to the merchant — or they can charge the sale and the merchant will then send a bill, typically at month’s end.
The other part of the process is that the merchant, if a retailer with inventory, must buy inventory, stock it, hopefully sell it and of course pay the supplier for the goods either C.O.D. (cash) or will be billed and must pay within a designated period of time.
And then there is the other expense we call administrative that must be paid in cash.
There could be a large gap between the time the merchant receives the inventory, has to pay for it, sell the merchandise and finally collect the cash. Let’s look at some possibilities:
■ The merchant has a cash business and pays cash to its suppliers for inventory.
This merchant would only suffer a cash flow problem if his cash out was greater than his cash in. This happens if, after paying for the goods from the supplier, he sells it for a profit but for less than needed to pay for all of his operating (administrative) expenses such as rent, utilities, salaries, supplies, etc.
■ The merchant has a cash business as above but the suppliers allow the merchant to charge the inventory/supplies for 30 days. In this case, the cash comes in first and if the merchant is selling the goods for more than its total cost of operation, the merchant should have a positive cash flow and should not have any problem paying the supplier because there would be a 30-day delay. That’s a nice situation to be in so the merchant would be able to use the extra funds to invest short term to earn an extra return on investment (ROI).
Now we get into the tough stuff that causes headaches among small businesses. They have cash expenses and customers buy on credit (creates an account receivable, an IOU). Merchants must pay expenses including employees, rent, taxes, supplies inventory, etc. All of a sudden the merchant has great sales and no cash. How can this happen? It is because the IOUs have absorbed the cash and the customers’ payments are not coming in soon enough for the merchant to pay their bills. Regardless of how much profit being made or sales generated, if the cash from the profit is not available, you are out of business.
We can take this scenario one step further:
The merchant not only has his cash tied up in customers’ hands with the IOUs, but now we have inventory sitting on the shelves that may sell or that may become obsolete. In either case, the cost of that inventory has sucked up a lot of cash.
So, sales are increasing like crazy, all is going well until the merchant has to pay help, landlord and all expenses and then where’s the cash? The reality is that it happened because small business owners become myopic and forget to look at the consequences of their policies. They assume things will be all OK; the customers will pay on time and the inventory will sell fast enough to pay the bills.
Let’s be proactive and think before we act and understand how the business decision affects the cash flow in and out of the check book. Before creating sales with charges and before buying all those deals that may or may not generate additional profit, think about how it will affect your cash that is necessary to pay bills and put some money away for a rainy day. If any of this sounds familiar, remember to ask yourself: How will this sale affect my cash position? How will buying extra inventory to make an extra profit affect my cash position? How will giving extra discounts affect my cash flow and will there be enough to pay bills?
Also remember that cash is king. Without it you are out of business. With it you can leverage a lot of benefits and even treat the kids to Disney World once in awhile.
Never sacrifice cash for profit or sales. Profits are not cash if the customer still owes you the money.
The SBDC provides small business counselors to guide you through this process. These are experienced professionals who devote their time to helping others. The service is free. Call (239) 745-3700 for an appointment.
Neil Shnider, MBA, CPA, is special projects consultant for the Small Business Development Center at Florida Gulf Coast University. He can be reached at the SBDC center or at firstname.lastname@example.org.