4 Ways Business Owners Can Smooth Out Cash Flow
Worried about collecting enough cash to pay your bills during slow months? Use these tools to keep your business from falling into a fiscal hole.
When money was tight and payroll was looming, Levi King would sometimes don a suit and hop in his car to try to collect from clients who owed his business money. This was many years ago, when he owned his first business, a sign manufacturing company in rural Idaho. He hadn’t yet learned how to access credit or capital, and the only way he knew he could make payroll was to get his customers to pay him faster.
“Balancing cash flow was an endless misery,” says King. “I had no credit accounts to draw on. I’d been taught my whole life to avoid debt and pay cash for everything, and I learned pretty quickly that this was bad advice. Business owners who understand how credit works have a huge advantage.”
Positive cash flow means that your business is bringing in more than it’s spending in a given period. You can pay your bills on time, make payroll, and take advantage of business opportunities like hiring new talent or implementing cutting-edge marketing techniques.
Small business owners with negative cash flow—who spend more than they earn—exist in a frantic cycle of solving one financial difficulty only to see two more spring up in its place. Their options are limited and their likelihood of failure high because they spend more time fixing problems than reinvesting in their business.
If you’re currently in this unhappy position, take heart. There are preventive tools at your disposal to keep your business from having to climb out of a fiscal hole.
Let’s take a closer look at four of them below.
Business Credit Cards
Like a personal credit card, a business credit card offers you a revolving line of credit that can be used to pay bills and make online purchases and cash withdrawals. Business credit cards can help you keep track of business expenses, keep business and personal finances separate, and put money back in your pocket with perks and rewards.
When times are tight, a business credit card lets you continue to pay expenses without interrupting your cash flow. After you make a purchase on a business credit card, you’ll have until the end of your billing cycle to make the full payment interest-free (if your card offers a grace period; virtually all do). If you need to carry a balance, business credit cards offer decent rates (10% to 25% APR) as compared to other fast small business financing options.
Perhaps most importantly, using a business credit card will help you establish business credit. Timely financing is the lifeblood of small business, but without a strong business credit score it can be difficult to get. A credit card in the name of your business will help you establish a business credit profile, which will strengthen your business’ credibility in the eyes of lenders, vendors and suppliers.
Small Business Line of Credit
A small business line of credit gives you access to an amount of financing predetermined by your lender whenever you need it. Both banks and online lenders offer small business lines of credit. The advantage of a small business line of credit over a traditional loan is that you pay interest only when you draw from the line, and only on the funds you use, rather than a lump sum of money you’re responsible for paying back.
As long as you make your payments on time and don’t exceed the limit set by your lender, you can access the credit at any time for a wide variety of business needs. These needs include paying suppliers, paying outstanding bills by cash or check, and for those rainy days when you need to make a payment or purchase but business has been slow.
As with business credit cards, a small business line of credit will help build your credit scores and establish a credit history both long and strong, as long as you are making on time or early payments.
Trade Credit
Trade credit is credit extended to your business by suppliers and vendors. The better your business credit score and the better your relationship with the supplier or vendor in question, the better the terms. Favorable terms mean your business has more time before the payment for the service or product provided is due.
For example, let’s say you’re a contractor with high business credit scores. A great opportunity with an important client comes up, but the job requires bigger and better equipment than you currently possess. Because you’re considered a safe credit risk, Home Depot might offer you a credit line of $10,000 and give you net-X terms, or a grace period of X days before you have to pay it back.
If you already have solid relationships with existing suppliers and vendors, it’s worth asking them if they’d be willing to extend your business terms, say net-30 or net-90. During the months your cash flow is strong, try to pay up early to keep your solid relationship with the vendor or supplier. The months in which money is tight, you’ll have that extra time to make your payments.
Trade credit is another effective strategy for building business credit and scores. Learn how to read and keep track of your business credit report to make sure that your suppliers and vendors are reporting your payments to the credit bureaus.
Invoice Financing
Invoice financing is a handy option for businesses with slow-paying accounts, such as manufacturing or clothing. If you’re owed $5,000 for a job, but the terms of the deal are such that your client isn’t required to pay you for 90 days, that $5,000 contributes nothing to your cash flow for three long months. Invoice financing gives you access to those funds (for a fee) when you need them, instead of having to wait.
There are two main ways to finance invoices. The first, invoice factoring, involves receiving a cash advance based on the value of the invoice. You sell your accounts receivable to a factoring company and receive an immediate payment in return. To qualify for invoice factoring, you must have invoices from clients who are creditworthy. If your client is considered a safe credit risk, you generally receive 50% to 80% of the invoice up front, with the rest being paid once your client pays off the invoice in full, minus a factoring fee (usually 3% to 5% of the invoice value).
Invoice financing is similar to factoring, but you use your accounts receivable as collateral to get an advance instead of selling it. And rather than using a factoring company as an intermediary, you maintain responsibility for overseeing your customers’ payments. If they stop making them, the amount you were initially advanced when you used accounts receivable as collateral comes out of your pocket.
Healthy cash flow means a healthy small business. The less you focus on scrambling to make ends meet, the more you can focus on reaching customers and improving your product. And since establishing positive cash flow and building business credit go hand-in-hand, don’t wait to get started. The future of your small business depends on it.