Cash flow is the difference between the opening balance at the start of the business year and the closing balance at the end of the year. These balances refer to the cash available in a business. The cash inflows are the cash amounts a company receives, like cash sales, interest, dividends on loans and investments, and cash receipts from supplier refunds.
Outflows refer to the cash amount paid by the business, like wages paid to the employees, tax payments, and payments to suppliers.
The difference between these creates the net inflow, which is ideally supposed to be balanced to have a good liquidity position for an SME. To improve your cash flow, you should spend less of your income.
If an SME has a positive cash flow, it probably means that the business must be earning a reasonable profit to have a more significant cash inflow than the cash outflows. However, that is not always the case, and the company could have decreased its outflows to maintain a balanced net flow. Here are some of the ways SMEs could react to a positive cash flow:
- The creditors will trust you. Having a positive, stable cash flow can indicate that your business will not go bankrupt anytime soon and will be able to manage the net flows properly. It will give the suppliers a sense of surety that their sales on credit will not turn out to be wrong or irrecoverable debts. This way, you will not lose suppliers who sell inventory on credit, and you will be able to have higher cash inflows.
- Settling debts. Higher inflows indicate the business has enough cash to pay off its loans or small credit debts. It will decrease the liabilities in the industry, and the owner will be able to use their profits for different expenses or investments other than interest and loan payments.
- Expansion. With excessive cash, the owner can reinvest the earnings into the business to expand their business- either by increasing their inventory or creating branches!
- Less stress. Knowing that your business has a positive cash flow will reduce your anxiety levels and result in improved performance by the owner, hence having a healthy working environment. Taking control will also be accessible when the stress levels are low and help you make better decisions.
- It will satisfy the stakeholders. Investors willing to invest in the business will be interested in the company’s cash flows. A positive cash flow will ensure the investors will get back on their investment rather than a deficit. Types of banks that finance small businesses will also ask the company to have a positive cash flow to ensure that their loan and interest will be returned.
- When your business gets into a stable position, there will be little or no need for further financing. Paying previous debts will lower the chances of needing other finance or loans, and the business can handle its expenses with earnings. You might only need financing if the entrepreneur needs to expand and has no appropriate amount to grow.
A positive cash flow does not always mean you have sufficient money to pay off your debts and expand quickly. Positive cash flow could also mean that you have controlled your outflows, such as expenses, resulting in a higher net flow.
Cash flow plays a vital role in SMEs as it identifies their financial position. The cash flow helps them identify the large outflows to control them and have a balanced cash flow. A positive cash flow can result in many advantages for small businesses as their outflow problems are solved.
Given all the stated advantages of a balanced cash flow, small and medium enterprises need to adopt practices that help maintain a balanced cash flow and enable a loss-free outflow of cash.
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