Small business owners are often overloaded with tons of activities revolving around their business, and they have very little time left for managing cash flows or scratching their heads on company’s finances. On the other hand, mismanaging your company’s funds might lead to total failure of your business.
Even though you have the brightest of ideas and your company is on the growth ride from the very first day, it is often seen that 80% of the businesses, big or small, fail or close down, just because they cannot manage their cash flows. In this article, we run through some of the deadly cashflow mistakes that can really hurt your business. Find out if you are making one of these mistakes and learn how to avoid these.
1. Forced Growth
One of my friends who runs a software development company started experimenting with Facebook ADs. In first month itself, he got good returns on his investment. He immediately increased his AD spend by 5 times anticipating 5x growth in sales.
Well, that didn’t happen. He did generate more leads but not in proportion to the AD spend. He spent more than he earned in that month and ended up screwing his cashflow. He had to take short term loan to cover up the month’s expenses. It is a good thing for a company to have a great growth story, but sometimes to have excessive forced growth can spell doom for the business.
These are effort-oriented tasks that need to be handled rapidly as loss of too much cash will severely affect your day-to-day operations. These extended services bring in more revenues, but with revenue comes in more cash outflows. Efficiently estimating these cash outages in due course of time can help you prepare for exigencies.
2. Spending Too Much on Sales
As a small business, it is impervious to fetch new customers, even at the cost of incurring losses. There are two metrics to identify whether your client is bringing you the profit that you anticipated.
- One of them is the ‘Acquisition Cost’ of the customer, which is the amount spent on gaining one customer.
- The other is the ‘Lifetime Value’ of the customer, which is the total revenue generated by a customer over its lifespan.
It has to be ensured that the Lifetime value must be greater than the acquisition cost. In this way, a positive effect is felt on the cash flows of the company.
Overspending on the acquisition cost might lead to gaining a small customer with a very limited return. Many businesses falter on this point as they perceive that more the customers, more the profit. There are lot of hidden elements to the acquisition cost. For example, salary of the sales person, amount spent on his mobile and internet connection, cost of his seat in the office, his commissions, etc. You need to add up all these indirect costs to correctly calculate customer acquisition cost.
If you don’t do this, you’ll unknowingly start burning more money than you earn and eventually affect your cashflow.
3. Incorrect Calculation Of Profitability
One of our ProfitBooks customers sells mobile accessories on ecommerce marketplaces. He buys the stuff at 40% margin from his sources. For example, he buys a headphone at 8,40 usd and sells it at 13,96 usd. He used to always believe that he was making 30-40% on every sales considering minor expenses.
But when he prepared his balance sheet at the end of an year, he realised that he made losses. He did not consider the marketplace commission, transaction fee, shipping cost (which varied for every order), cost of storing the inventory and most importantly – cost of returns.
Many-a-times, businesses feel that there is enough profit from every transaction they enter into. However, businesses of all sizes run into severe cash problems because they have committed too much on overheads.
Anticipating these expenses and the consequences of the same is necessary for the well-being of the company. One can only be profitable when there is enough money in the bank accounts left after paying off all your expenses.
4. Sleeping Over Late Payments or Overdue Amounts
Late receipts against your invoices can spell trouble for your business. It may sound trivial, but the fact is, when your customer delays the payments, it would be difficult for you to pay to your vendor.
Moreover, if your vendor does not wait for his payments that would mean you have to pay him off to maintain future credibility. As a result, you will block a major chunk of your funds in this working capital, and you will not be able to make operating expenses easily.
Too much credit can hamper your working capital requirements and suppliers lose credibility very often since payments come in after approximately 3 months. That means no payments or holding expenses for 3 months, which can severely hamper operations on a large scale.
5. Improper Management Of Taxes
Tax is a fine for doing well. Sounds funny but it is true. Taxes are statutory obligations that are obligatory in nature and has to be paid mandatorily, whether you like it or not. Moreover, it has to be paid whenever it is due.
You can seek the help of an expert tax consultant in identifying the approximate amount of tax that you will end up paying the next year. It depends on the growth plan of the company anticipated for the forthcoming year and the financial budget presented by the Ministry of Finance at the beginning of the fiscal year.
A sudden change in the tax rates can also affect the cash outflow. It is often seen in the case of service tax, where recently the rates were increased from 12% to 12.36% and then to 15%. Your product or service might have been exempted from tax earlier but may be taxable in GST regime.
So, its always wise to plan for such statutory uncertainties. It has a long lasting impact and making ample provisions for the year to come will always be beneficial to the company.
Source Profitbooks
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