As a businessperson, you do not just need to keep an eye on the profit but also the healthy cash flow of your business. Lack of cash is one of the biggest reasons that businesses fail. Some businesses make a profit but have no cash.
Cash flow is the money coming in and going out of your business whereas profit is an accounting concept showing how much you have earned after deducting your costs from total revenue.
You can have billions of dollars in revenue that has not been received in cash yet. In this case, you might not be able to pay your suppliers. Therefore, it is important to manage your cash flow effectively. The reason why cash flow is important is below:
Better planning and decisions
With an accurate cash flow forecast, you know the exact amount available at any given time, which provide you with the relevant information for decision making. You can see where and when the money is coming into the business and decide when the right time is for any significant purchases that can help grow your business.
Understand your business spending
Managing your cash flow will enable you to understand where and what your money was spent on. You can then identify areas to cut costs. If you are having poor cash flow management, you can miss the opportunities for your business because you “feel” like you cannot afford it. Sometimes, you are too worried about the ROI, you do not spend in places where you should. You made a decision out of fear and you are unable to expand your business by spending on the correct marketing campaign, hiring the right staff for a higher-performing team.
Understand your customer
Cash flow analysis can also tell you if your customers are taking too long to pay their invoices, making your finances vulnerable. You can then review the payment terms, determine whether you want to continue to provide goods and services to them. You can understand your customer’s ability to pay and that helps you to manage the risk of giving credit to your customers.
Protect your reputation
If you do not have sufficient cash to pay your suppliers, this can destroy the businesses relationships and damage your overall reputation.
Profits ≠ cash. However, you must always have sufficient cash for a successful business. So, having positive cash flow is a key requirement for a business to stay solvent. When a business has no longer enough cash to pay its dues, it can be vulnerable to being placed into insolvency.