How to manage cash flow in a seasonal business

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Anyone running a seasonal business knows the story: one day, there is a pile of cash in the bank, then it appears to disappear overnight. Here are five tips to help you manage your cash flow if you ever find yourself in this situation.

1. Get better at managing your receivables

If you offer credit to your customers, what are your terms of trade? It’s a question I often ask ,and the response from the business owner is typically 7 days or 14 days. And yet, when I do a simple calculation to understand days in receivables, more often than that the result is much higher than that.

To calculate your days in receivables, pull out your latest full year financial statements. Turn to the balance sheet, and note down the figure shown for accounts receivable or trade debtors. Let’s assume that number is $127,000. We will label it A.

Next, look at your total sales in your profit and loss account. We’ll assume that number is $500,000 and we’ll label that B.

The calculation for days in receivables is now A/B multiplied by 365. So in this case, 127,000/500000 x 365, which equals just short of 93 days. What that means is despite your stated terms of trade of 14 days, it is actually taking your customers three months on average to pay your invoices! This is not uncommon. Do your own calculation, and if the number is too high, give someone on your team the task of rigorously following up your customers to secure payment more quickly. In the case of this fictional business, every day by which you reduce the days in receivable will free up close to $1,400 in cash. So, even if you get it down to 50 days — still not even close to your terms of trade — you will find your bank balance is boosted by approximately $60,000 relatively to where it would have been had you left the number at 93 days.

2. Set money aside to pay taxes

In most jurisdictions, and certainly in Australia and New Zealand where most of the readers of this blog reside, goods and services taxes can cause problems for small business owners because of the way they operate. Essentially, when you make a sale (and assuming you are registered for GST) you collect the tax on top of your sales price and hold that for a period of time before remitting it to the tax office on your GST return.

Let me use Australia as an example. Let’s say you make a sale of $5,500 (including GST) on 1st July. The GST component will be $500, based on the current rate of GST of 10%. You then need to send that to the tax office along with all other GST amounts collected, less any GST you have paid on your purchases — but not until 28th October. This is good on one hand — you get to keep the cash in your bank account for up to four months, depending how quickly the invoice was paid — but can cause real problems for business owners who are not conscious of their future tax obligations and can be particularly tricky in seasonal businesses. Oftentimes the collected GST component is spent, and then when it comes time to file the GST return, there is not enough money in the account.

If you find yourself consistently short at tax time, consider opening a separate savings account. At the end of each week, deposit 10% of all sales invoiced that week. (You should work with your accountant to determine a more accurate number, but 10% will often be enough because of the offset of GST on purchases. If you operate in a country where the GST is higher, then increase the number accordingly.) That account should be a no-go area until you use it to pay the GST to the tax office when due.

3. Consider refinancing your debts

Many businesses carry credit card debt, which is extremely expensive. They may also have a couple of different business loans on their books. If you find you are being hit with significant loan repayments and hefty interest charges, talk with your accountant or financial planner about refinancing. Depending on your circumstances, you may be able to consolidate your debt into one business loan and possibly secure a more favourable rate of interest to boot. This could help reduce your outgoings, which is of utmost importance when you are faced with seasonal variances in your business.

4. Plan for demands on the business’s cash flow that do not appear on the profit and loss account

Many business owners find there is a profit on the profit and loss account but no cash in their bank account. It is important to understand why that is happening (your accountant can help) but also to plan for non-P&L account cash demands in the upcoming period. For example, none of the following cash demands would appear on the profit and loss account for your business:

You need to buy a new machine and because you have just had a great month, you write out a cheque for $50,000. Who needs finance when cash flow is so great?

The term on your car loan is up and you send the balloon payment of $11,500 to the financier.

You are about to celebrate your 10th wedding anniversary so you pull $20,000 out of the business as drawings to pay for a round the world cruise.

You are developing software in your business and you’ve been advised by your accountant to capitalise it (meaning it appears on the balance sheet rather than the profit and loss account, and is depreciated over a period of time.) You spend $40,000 on development in the period.

If you are not aware of this, you will find that your cash balance will increase by approximately $120,000 LESS than your profit — maybe more if compounded by other issues such as customers paying you more slowly than they did last year. This can cause real strain on a business’s cash flow if it is not planned for in advance.

5. Prepare a detailed cash flow forecast and budget

Again, your accountant can help you here. If your business is seasonal and prone to cash shortfalls, talk with your accountant about a three-way cash forecast and budget. What this means is that you forecast out month by month, line by line, your profit and loss account, cash flow forecast and balance sheet to make sure everything is accounted for. Then, really importantly, monitor this monthly against actual results. That way, if something does go awry, you can take action before it’s too late.