Improving cash flow can be a challenge for businesses, but fixing the missing links can help you take out the stress and gain some financial breathing room. Without money on hand, you can’t make payroll, cover your bills, or pay your taxes.
When we talk about cash flow, major focus should go to accounts receivable and accounts payable as these two areas can give serious blows to your working capital potential. It needed a proper focus and an action plan to be dealt by the business.
Accounts Receivable is the proceeds or payment which the company will receive from its customers who have purchased its goods or services on credit. Usually the credit period is short ranging from a few days to months or in some cases maybe a year.
So many small and medium businesses must always be wary of raising Accounts Receivable which can inevitably come to create cash flow problems. So if you are a business that is looking to improve your cash flow and optimize the working capital, the first step any business can take is to get rid of suboptimal Accounts Receivable practices that usually lead to mismanagement of Accounts Receivable.
When a company purchases goods on credit which needs to be paid back in a short period of time, it is known as Accounts Payable. It is treated as a liability and comes under the heading ‘current liabilities’. Accounts Payable is a short-term debt payment which needs to be paid to avoid default.
Main bad practices to avoid when managing cash flow
- Adopting an inefficient customer credit approval process which ignores payment terms and conditions.
- Lack of standard invoice/billing process such as price, units, purchase quantities, customer accounts to be some of the common areas where mistakes can happen.
- Lacking a master database of customer data due to lack of updated information or misinformation is a most common Accounts Receivable problem.
Good practices for optimal cash flow improvement
- Study your cash flow patterns to identify trends and create a plan to best prepare for the future.
- Maintain a cash flow forecast document or a visualization.
- Businesses must set out clear and concise policies on credit approvals and extensions. Separation of duties between finance and sales personnel must be established.
- Negotiate quick payment terms with other parties as suitable.
- Reduce the risk of unpaid invoices by adding late payment fees. Be sure to clearly highlight the late payment penalty in the initial customer contract and again when you first invoice, explaining what the fee is and when it applies.
- Check your accounts payable terms (cash outflows) and see how long you can wait on payment
- Assess credit limits regularly and establish timelines for credit applications.
- Review the credit approval process and make necessary tweaks based on the market conditions, and risk profiles. Consider options to grant credit approvals for limited time periods if necessary.
- Automate the invoicing or billing process to reduce human errors and time costs.
- Centralize all the data on one standard platform with all the customer information – addresses, payment information, purchase limits, payment terms, discounts, credit terms and more.
- Cut unnecessary spending such as extra office space, unsold inventory, costly employee phone plans.
- Consider leasing instead of buying to make smaller payments that don’t eat your cash reserves.
By creating a standard credit approval process, businesses can handpick the right clients to reduce Accounts Receivable problems by a mile. Having a standard customer master database helps Accounts Receivable resources to reduce errors and follow-up the client better to further improve the cash flow performance.
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