Cash flow basics for small businesses

What is cash flow?

Cash flow is simply the measurement of money moving into and out of your business over a specific period.

• Positive cash flow: You have more money coming in from sales or investments than going out.
• Negative cash flow: You are spending more on expenses like rent and payroll than you are bringing in.

It is important to remember that cash flow is not just about sales revenue. It includes all cash transfers, including loan proceeds, asset sales, and expense payments.

The difference between cash flow and profit

A common mistake business owners make is assuming that being profitable means they have positive cash flow. These are actually different concepts.

• Profit is what remains after you subtract your expenses from your revenue. It is an accounting figure that shows success on paper.
• Cash flow is the actual money available in your bank account right now.

Example: Imagine you close a $50,000 deal today. That is profit. But if the client does not pay the invoice for 60 days, you have zero cash flow from that deal to pay your employees next week. You can be profitable and still run out of cash.

How do I calculate cash flow?

To get a clear picture of your financial health, you should regularly calculate your free cash flow. This formula tells you how much cash you actually have available to spend or reinvest.

The basic cash flow formula:

Net Income + Depreciation/Amortization – Change in Working Capital – Capital Expenditure = Free Cash Flow

If you need a simpler version to begin:

1. Start with your beginning cash balance.
2. Add all cash inflows like sales and loans.
3. Subtract all cash outflows like expenses and purchases.
4. Result: Your ending cash balance.

7 Strategies to improve cash flow

If you are seeing tight margins or seasonal dips, use these strategies to keep your business healthy.

1. Incentivize early payments

Do not wait 30 or 60 days to get paid. Offer a small discount to clients who pay their invoices within 10 days. You should also clearly state penalties for late payments in your contracts.

2. Optimize your invoicing

Send invoices immediately when you deliver goods or services. Every day you wait to invoice is a day you delay getting paid. Use digital tools that let clients pay instantly via credit card.

3. Manage inventory strictly

Inventory is cash sitting on a shelf. Avoid ordering too much. Use software to track what actually sells and only restock what you need. This prevents cash from being tied up in dead stock.

4. Lease instead of buy

Purchasing equipment often requires a large amount of cash upfront. Leasing allows you to pay in smaller monthly installments. This keeps your cash reserves higher for emergencies.

5. Negotiate with suppliers

Ask your vendors for more time to pay. If you can collect money from your customers before you have to pay your suppliers, your cash flow naturally improves.

6. Build a cash reserve

Aim to keep three to six months of operating expenses in a business savings account. This buffer is vital for surviving slow seasons or unexpected economic shifts.

7. Utilize a line of credit

A business line of credit helps bridge the gap between payables and receivables. It gives you access to funds when you need them, and you only pay interest on what you use.

Common cash flow terms glossary

• Accounts receivable: Money customers owe your business for goods or services delivered.
• Accounts payable: Money your business owes to suppliers or creditors.
• Burn rate: The speed at which a new business uses up its cash reserves before making a profit.
• Cash conversion cycle: The time it takes to convert your investments in inventory into cash from sales.
• Working capital: The difference between your current assets like cash and inventory and your current liabilities.

How Everwise can help your business

Managing cash flow is easier with the right partner. At Everwise Credit Union, we offer business solutions designed to support the local economies of Indiana and Michigan. From business checking accounts that streamline your receivables to lines of credit that smooth out seasonal gaps, we are here to help your business thrive.