Cash Cash Cash Cash

By Larry Chester, President, CFO Simplified

Everyone knows how important cash is to the business owner. But it’s not just a matter of knowing how valuable cash is in running your business.

What you need to know is how to manage the cash by predicting not only your cash needs and future availability, but also measuring how well you used your cash last month.

Of course, planning is the key to any successful activity, and cash is not excluded from the planning cycle. That’s how you avoid the experience that I ran into early in my consulting practice when a client said, “your first job is to figure out how we’re going to get enough cash to cover payroll on Friday.” That was on Wednesday.

So there are two documents, two guiding lights, that should be the stalwarts at your side to help manage the cash of your business:

1. The Cash Flow Forecast
2. The Statement of Cash Flows

And while I won’t question that everyone knows what a cash flow forecast is all about, and that you can define it and maybe even make one for your company, I’m willing to bet that you are more than a bit foggy on the Statement of Cash Flows.

I think that the Statement of Cash Flows is the disrespected stepsister of financial reporting, much like Cinderella. Few know what it’s all about, and even fewer take the time to understand it and know how to use it to help them make decisions. So, let’s look to see how this Cinderella report can help you plan for and understand your use of cash.

But first, let’s be clear on the purpose of these two documents. The Cash Flow Forecast is a predictive tool. It tells you how much money you will have available, and what your needs are going to be at some point in the future. In one way, it’s like your budget, which is designed to predict what your expected sales and expenses are going to be. The Statement of Cash Flows is a historical document that tells you how much you spent in a past period and where that money came from. By comparison, it’s much like your Profit and Loss statement. It tells you what happened in the past period.

The reason why people don’t understand the Statement of Cash Flows is because they don’t realize that the money that’s available to spend is far more than just the amount in their checking account or savings account. It’s managing all those ins and outs that determines how much money you truly have.

The Statement of Cash Flows isn’t at all about the cash you have sitting idle in your bank account. It’s about all the places where money – where value – was ‘stored,’ like in inventory, AR and AP, loan payments and payment receipts.

Using money in your business is a balancing act. The question is how to increase the amount of money you have available. You can increase it by collecting more from your customers, or by spending less. (No kidding, right?) But the Statement of Cash Flows tells you where you got the “value” that you used in some past period to run your company, and how you spent it. That’s why it’s also called “Sources and Uses of Cash.”

We can break it down like this:

Where money comes from — SOURCES:

• Outside sources — the bank, investors, loan receipts
• Sale of inventory or other assets
• Reducing or delaying payments
• Improving collections of AR

 How is money spent — USES:

• Repaying loans
• Purchase of inventory, equipment, or other assets
• Paying invoices or loans down
• Paying employees — payroll

It’s important to see where your money came from last month. There may be some simple areas to understand, e.g., borrowing from the bank or collecting your accounts receivable. But there are other sources that can have a long-term impact on how the company operates in the months ahead.

Some business owners are hesitant to borrow more from their bank because they don’t want the burden of an increased credit line. So instead, they get the cash they need to run their business by selling their inventory — and not replacing it.

On top of that, they might be holding off on paying their suppliers, and pushing off payables checks till next week or next month. By doing this, they are kicking the can (of being cash short) down the road. Certainly, selling inventory will improve your cash flow, but your company needs to maintain a certain level of inventory to serve your customers. If you sell off your inventory — without replacing it — you may gain a momentary increase in cash availability but have no money to purchase new inventory. You could be creating a future problem. Without sufficient inventory, sales may end up being difficult.

And, even though it may seem easy to go into your system and look at all the reports your system can generate, such as Inventory Value Report, AR Aging, AP Aging, Bank Balance, Income Statement and Line of Credit, this little appreciated, stepsister report will put all the information right in front of you. It presents the changes in each of those reports since last month, and how those numbers have impacted on your availability of cash.

The Statement of Cash Flows is organized into three easy to understand sections:

Cash Flow from Operations:

Sales of product

Expenses related to running your company

Cash Flow from Investing:

Purchase of inventory, or other assets

Cash flow from Financing:

Money you’ve received from the bank

Looking at the results from each of these areas will tell you how money has moved in your company. And a quick glance will explain to you whether you’re mostly depending on your bank, if you’re eating into your inventory, if collections are soft, or if you’re putting off paying your bills. Here’s a link to a short video presentation on Statement of Cash Flows, to allow you to understand a little more about this disrespected, but important and useful report.

Yes, you may know all this by looking at each of those reports. But when you decide to look at a summary of where your money is coming from, you’ll see that the little stepsister of your financial reporting, the Cinderella of your Financial Reports, has just really been misunderstood. She’s a valuable member of your monthly reporting after all. It’s time to get to know her and welcome her into your family of monthly financial reporting.