Cash flow may be the single most important financial topic for small business owners. Without money moving through the business, there is no business. Yet, many owners have found a way to consistently keep the lights on without consistently making a profit. If you feel like your company takes every dollar of revenue to run, perhaps it is time for a new cash flow system. While no cash flow system is perfect, reordering the priorities of where the money goes can help you pay more, better estimate expenses, and keep your business moving.
One Account to Rule Them All
While it is all too common, the most basic level of cash flow management for business owners is almost no management at all. Especially for owners under a million in revenue, they have their business cash flow mixed in with their personal accounts. Instead of separating the bank accounts, all personal and business expenses come out of one account. Many times, the rationale is that it may feel easier. Many owners consider their business to be ‘their whole life,’ and therefore don’t see any benefit in maintaining separate accounts.
However, this can cause problems as the business grows. All too often, there are moments when extra cash is needed, and it is easy at this level to rob your personal finances to pay off suppliers, reimburse customers, etc. It can also lead to missed deductions or incorrectly reported ownership distributions. From a strictly reporting standpoint, it can be much easier to count revenue and expenses from an account solely dedicated to the business.
Separating the two worlds can help address the lack of clarity. Getting a quick look at the health of your business cash flow on a weekly or monthly basis can be a powerful tool. Just because an owner has worked fine with comingled accounts in the past doesn’t necessarily mean they should keep going. For better or worse, many owners may not have ever been taught the tax and legal benefits of keeping accounts separate.
Clearer Cash
As companies scale and expand, the need to separate personal from business finance becomes essential. Owners at this level of cash flow management would likely have specific business accounts, likely even business credit cards. Managing the revenue and expenses is relatively easier at this point and is likely done by an accountant reviewing the bookkeeping periodically.
The benefit of this system is the ability to see the health of the business at a glance, independent of the owner’s personal life. One of the things I find funny is how often someone looks at their investment account versus how often they look at their bank account. Except for my stock nerds, most may be lucky to look at their investments once a quarter. But I’d venture to guess that nearly every business owner looks at their bank account at least weekly, if not daily. Why is that?
I’d argue it is because cash is the lifeline of the business. If the operating account doesn’t have the funds to pay the bills this week, that will put you in a very different mental (and physical) state. The good side of this clarity helps illuminate what needs to be done, whether that is hustling for another sale or working with a supplier to cut or delay costs. However, the bad side of clarity means that work still needs to be done, and “putting out the fires” could never end. Therefore, as the life of your business evolves, a new problem will occur: not enough profits. That leads us to level 3.
Proactive Profit
The highest level of cash flow management is more proactive than reactive. At this point, your accountant has likely explained the old ‘Revenue – Expenses = Profit’ formula. As revenue increases, somehow those expenses seem to keep pace as well, leaving little profit left over. Proactive cash flow management flips the traditional notion, where you focus on profit, not expenses. Instead, use the formula: Revenue – Profit = Expenses.
Let me put it another way: Do you open QuickBooks (or whatever accounting tool you use) or your bank account more often? Many accountants will tell you to run your business finances by looking at your P&L and cash flow statements. Personally, I love to geek out on these reports. However, I’d imagine most owners are not like me, and the thought of looking at those reports makes them cringe. I met with a client and her CPA recently, and we knew the conversation was over when she said, “Just tell me what to put down”.
In practice, this looks like predefining where revenue will go once it is received. Instead of waiting (sometimes forever) to take a profit, you will allocate a certain percentage to profit immediately once you receive it. This also applies to the other critical areas of business finance. Open new bank accounts designated for profit, taxes, owner’s compensation, and operating expenses. Then allocate every dollar of revenue to one of those 4 accounts, based on percentages that you set. Ultimately, this will keep your operating expenses from growing as rapidly since you are purposely not spending as much as you can.
Cash Flow Management
The way each business owner structures their cash flow management may be different, but the overall principles remain the same. The more you can set up your money to work for you, the better. On the other hand, the more anxiety or uncertainty you have about your money, it may simply be due to your current cash flow system. Focus on what is controllable and change the things that give you the highest probability of success. Sometimes that can be as simple as extra checking accounts you glance at each morning.
TC Falkner 