Many start-up businesses fail due to a lack of cashflow despite making a profit. How does this happen, and why is it important to manage your cashflow? Consider the following simple example:
You start a business selling water tanks. They cost you $600 and you sell them for $1000. In you first month of operations, you sell twenty water tanks. Leaving aside things like rent and utility expenses, you make $20,000 in sales in the first month and only have $12,000 of costs for a profit of $8,000. Well done! Unfortunately, to stock your shop, you purchased the twenty water tanks at the beginning of the month and had to pay the supplier by the 14th. In an effort to encourage customers to buy, you offered 30-day credit on purchases, so depending when you made your sales, you won’t see any money until the end of the month at the earliest even if everyone pays on time. So now you have a $12,000 bill due at least two weeks before your first income. Unless you have funds set aside for this eventuality, you will be unable to pay and may find suppliers unwilling to restock your business.
In addition to timing problems between buying and selling stock, providing credit allows for the possibility of late payments and bad debts. Once a creditor moves from thirty days overdue into sixty or ninety days overdue, the odds of ever seeing the money diminish dramatically. If providing credit is unavoidable in your industry, or you already offer credit and want to get your accounts receivable in hand, here are 6 easy steps to follow.
- Create your credit policy: This applies even if you already offer credit in an ad hoc manner. Take the time to consider how soon you require payment (ideally sooner than your suppliers require payment), as well as the process your customers need to follow to apply for credit.
- Publish your credit policy: Once you have your credit policy set, put it in writing and display it clearly in your office and on your website. If it is a new policy for an established business, send it to all existing customers as well as any new clients. People are less likely to take offence if they see it as a general policy rather than a sudden lack of confidence in them personally.
- Choose your debtors carefully: Your policy should include reference requirements from either banks or other credit providers that the applicant uses. Don’t feel bad about denying someone with a bad credit rating – remember that a customer doesn’t benefit your business if they don’t pay for the stock they take!
- Invoice on time: If you want people to pay on time, send out your invoices on time! Using accounting software like Xero will automate much of the process and also save you from having to reinvent the wheel. Include the date of the invoice as well as the due date, and clearly state the payment terms and provide contact details in the event they have payment difficulties. Remember that organising a payment schedule with a struggling customer is more likely to result in a positive outcome than simply sending multiple reminder notices.
- Follow up overdue invoices: The longer you leave an overdue invoice, the less chance you’ll get the money. Don’t feel bad contacting a customer who hasn’t paid. They made an agreement with you that in return for your product or service, they would pay by the due date. You are just asking them to live up to their side of the agreement!
- Consider using a collection agency: If you have a debtor who just isn’t responding, look at passing their details onto a collection agency. Consider the cost involved against the outstanding amount to see whether it is really worth your while. Unfortunately, some business owners work the system knowing that a debt of less than a few hundred dollars is likely to cost you more than that to collect – as a result, they act with impunity.
Follow the tips above and you should find a significant improvement in your collection process without overly offending your existing clients!
By Jennifer Lowe
The post Cashflow: How To Get Your Accounts Receivable In Hand appeared first on Total Tax.