They say cash is sometimes king when investing. Well cash flow is always king when it comes to any small business. Money needs to be coming in the door in a regular manner.
Cash flow for any business oscillates. Good months can be followed by ho-hum months.
Xero’s Small Business Insights shows that businesses tend to be cash flow positive around half the time. This might seem low, but we need to reality check this in terms of possibly why.
Cash flow reflects not just the underlying profitability but the performance of any business. Businesses do not let money sit around idly. They do something with it, whether that be through drawings or investing proceeds from the business into other areas. Money is a transactional account in the bank might be good for liquidity, but it is also dead money.
Xero’s Small Business Insights shows that 56.45% of businesses were cash flow positive in March.
That’s solid and better than the usual March figures. In fact, it’s one of the stronger months seen all round. More firms were cash flow positive in March 2018 compared to the same month in 2017. That’s a healthy sign and goes against the grain of weak business confidence derailing the economy and slowing it down. If the economy was slowing, cash flow would be weakening and not improving.
Managing volatility in cash flow is a big issue for small businesses. The proportion of firms that are cash flow positive can range from 38% to 56%.Those are massive swings.
“Weak” cash flow months are typically January, May and August and that will partly reflect provisional tax payment timing. Sales variability will also play a role and of course we all holiday in January so that tends to be slow activity month.
However, a big driver of cash flow is simply getting paid, whether that be on time or not.
Xero’s Small Business Insights shows a strong relationship between cash flow and getting paid. Cash flow performance tracks how long it takes businesses to get paid. Put simply, when people take longer to pay, cash flow can become strained. The causality will go the other way too. When cash flow slows, businesses can be slower to pay. That’s when the wheels of the economy start turning slower.
Such information is what makes Xero’s Small Business Insights such a powerful and important source of material.
The primary message for businesses is to stay on top of your accounts receivable. If you can, make the terms shorter to encourage earlier payment. Otherwise it’s natural for payment to default to the payment due date, which can typically extend beyond that.
However, there are lessons for service providers, policymakers and the wider business network.
The payment terms imposed by big firms can have a massive influence on small firms. Small firms often do not have the balance sheets to handle big swings in cash flow like larger entities. Big firms shouldn’t be able to use small firms for liquidity.
Service providers such as financial institutions can look at the aggregated data and get insight into how they can better assist with smoothing cash flow via lending arrangements.
Policymakers need to be aware of the importance of cash flow and getting paid to small business. The new AIM provisional tax system can help smooth cash flow, but policymakers should be looking more extensively too. The Government is a big chunk of the economy. When they pay their bills has huge flow on effects. The Government (like big businesses) has a big balance sheet to manage cash flow over the year; small businesses often do not.
This article, including the insights and analysis contained within it, was prepared by Economist, Cameron Bagrie with the support of Xero through Xero Small Business Insights data. All data used is anonymised and aggregated. For the purpose of informing and developing policies to promote small business in New Zealand. It contains general information only and should not be taken as taxation, financial, investment or legal advice. Xero recommends that readers always obtain specific and detailed professional advice about any business decisions.