Just like your heart that manages the blood circulation of the whole body and keeps you in great health;
As a small business owner, you should manage cash-flow effectively for the growth of your start-up.
Inefficient management can dry your cash, affecting the operations of the business.
Many first-time entrepreneurs experience common cash-flow problems that might impact the business operations, if not addressed in time.
Today’s post is about addressing those problems and finding their solutions.
1) Half-baked business plan
You're are directionless without an effective business plan.
It is the road map that gives direction to your start-up.
Many new entrepreneurs either skip this or design a half-baked business plan in a hurry to launch their business.
People who do this, pay its price later.
Therefore, you need to take out time to design an effective business plan that helps you in achieving your goals in the desired time-frame.
A good business plan answers the following questions:
When you answer above questions, you'll get the direction.
Maybe, its a bit time consuming but it is worth doing when you're starting a new venture.
2) Under-estimating the Start-up Cost
It is the money that you spend on creating a business.
Many new entrepreneurs make the mistake of under-estimating the start-up cost.
There is more to a business than purchasing equipment and renting an office.
"Detailed planning, error-free accounting, and right execution is the key to manage your start-up cost"
The start-up cost includes money and time spend in designing a business plan, registration charges, research expenses, buying the right technology, and the borrowing cost.
The combination of these decides the growth trajectory of your start-up.
When you underestimate or do not consider this expense while evaluating the total cost, you get a deflated cost of the start-up.
Most of the budding entrepreneurs, while estimating the total cost, overlook the overhead cost like rent payment, insurance, utilities, taxes, repairs, etc. in their plan.
(#The overhead cost is an expense that is not directly related to the service or product being produced)
Not keeping the cash for this expense is a mistake that will disturb the cash-flow process and soon you'll see that your pockets are drying up.
Let us consider 3 different cases and see how it affects the per-unit cost of the product being produced.
When the start-up cost and the overhead cost is totally ignored and is not included in the budget plan.
The per-unit cost for 100 units produced
= $28 (Deflated Value)
When start-up cost and the overhead is included but are not estimated right.
In this case, the per-unit for 100 units produced
= $33 (Under-estimated)
When you estimate both the costs right, you get the clear picture.
In this case, the per-unit cost for 100 units produced
The right estimation of the per unit cost is $38 and selling your product below this price is a LOSS.
The cash-flow process will become smooth when you sell it above its cost price.
How much smooth?
It depends on how you price your product? (under-price, right-price or over-price).
Now you can see how the right estimation of cost helps in creating a smooth cash-flow.
3) High Borrowing Cost
Another common mistake that most entrepreneurs do is attaching high borrowing costs with their start-up, resulting in more interest payments and less net-profit (%) in hand.
It is true that entrepreneurs want to grow and investing the borrowed amount (in a balanced way) in addition to their money is healthy for the growth of a start-up.
But in the quest of growing quickly,
they forget the balanced approach and borrow to an extent that it becomes more than their own funds.
After this point, the problem starts. The interest cost starts increasing, profit margins diminish and your cash starts drying up.
How does this happen?
Let us understand this with the help of an example:
Both invested in same type of business.
James produced 100 units from his capital of $1500 while on other hand Stephen, who had double the amount to invest, produced 200 units.
Both sold their products at the rate of $20 per unit and their financials in the month end were as follows:
You can see that the profit(%) of James is slightly more than that of Stephen's, although he invested half the amount.
It shows that more debt doesn't necessarily mean that you are earning more profits.
One question that most entrepreneurs ask me
"Don't we achieve economies of scale by investing more money into the business and producing units at the lower prices?"
I don't deny this fact
When we achieve this with the borrowed amount then the price benefit due to economies of scale is over-shadowed by the interest obligation due to the borrowed amount.
Does this mean that we shouldn't invest the borrowed money into the business?
I didn't say that
we should do it in a balanced way, the ideal debt:equity ratio is 1:1.
In other words, your debt should not exceed your equity.
Doing this will negatively affect the cash-flows.
Therefore, new entrepreneurs must design their debt:equity ratio in a balanced way.
4) Not choosing Right Technology
Technology plays an important role in the growth of your start-up.
To be precise, it makes the whole business process very effective by streamlining the external and internal transactions, facilitating fast communication, reducing product delivery time, increasing the presence and widens the reach, offering secure and multiple payment gateways, and allowing you to create customized products at a cheaper cost.
Entrepreneurs make the mistake of not choosing the latest technology and even if they do, it might not be appropriate for their small business.
You should choose that one which is in your budget, matches your expectations, and fulfill your needs.
Any mismatch disturbs the cash flow and affects business growth.
Small entrepreneurs are tightly packed in their daily routine. They should look for technology that is easy to use and reduces their workload.
How to choose the right technology for your start-up?
Let me answer this question with help of an example.
For instance, you are a small entrepreneur who is looking for the right website builder to create online presence for the start-up.
Your requirements are:
Let us GOOGLE our requirements:
The first one "Best website builder for start-ups"
Second requirement "Best value for money website builder"
Third requirement "Easy to use website builder"
You can see that WEEBLY is the best option that fulfills my all small-business requirements.
Therefore, choosing and investing in the right technology is the key for making your cash-flow smooth.
5) Ineffective Marketing
Entrepreneurs create products, embed them on their websites, and share on different channels.
After that they start expecting sales to happen overnight which doesn't happen.
The cash-crunch starts because whatever they had, they invested in creating a product. Now, its time for cash inflow which is not happening due to ineffective marketing.
Marketing is more than sharing your product among people.
What is effective Marketing?
It is an art of selling your products to your target audience.
You too can master this art by defining the target audience and this can be done when you connect the dots between your product and the target audience.
these DOTS are:
For instance, you make designer bridal dresses for your customers.
Now, you're in process of defining your target audience.
Let's define each DOT one by one.
The bridal dresses are more in demand during wedding (Occasion) and in India most weddings happen in the months of October, November, December, and January (Time).
You have designed this product for females (Gender) falling in the age bracket of 20-30 years (Age).
As it is a designer product, you are mainly targeting a high-income group audience (Income).
When you're doing offline marketing then you should look for societies, colonies (Place) where high-income group people live.
In the case of online marketing, look for platforms where you can find the maximum number of target audiences.
For example, promoting your product on Pinterest is more fruitful than doing the same on LinkedIn because Pinterest is a favorite among females (Your target audience).
Similarly, Instagram is another place where you can promote your product.
Again, timing is very important.
Sharing your product at the right time will get you more open rates, helping in driving sales.
You know that your target audience is either a student or a working lady who is out during weekdays.
Therefore, the right time to promote your product is in the evenings and during weekends when they are at home and are relaxed.
In addition, if you have their e-mail addresses then you can send personalized e-mails and can even offer discounts on your products.
If you are not using any e-mail software then try using MailerLite. It is a great e-mail marketing tool for small entrepreneurs.
Your online store is a great place for marketing your product online. Provide great product description by uploading clear pictures taken from different angles, mention its features, and the benefits in the description box, compelling your audience to buy your product.
When you connect the right dots, product will reach to the target audience, sales will increase, cash-flow will become smooth, and your business will grow.
6) Wrong pricing
New entrepreneurs make a mistake of pricing their product wrong.
They either make it too low affecting their profitability or price it high affecting the sales.
Most of them keep the price low, thinking that it will help in driving sales.
it has negative effects on their business. First, people think that it is a cheap quality product repelling them from buying your product
And the profit margins make it difficult to carry out daily business operations.
Price reflects the quality of the product.
Therefore, deriving the right price of the product is very important.
Yash, how to derive the right price of the product?
First of all, your product must have a quality that is capable of solving people's problems and making their lives comfortable.
There are a number of parameters which upon following takes you near the right price
You can do it either by knowing the value addition that your product offers to the customers
Size of the problem it solves
The Profit margin you want from the product sales.
The task is not over yet.
After fixing the price of the product, review the sales for the first 2 months. If it is not increasing then something needs improvement either the product features or its price in order to improve the cash-flow of the business.
7) Delayed Receivables
You have a great product that is selling successfully. Your sales are increasing but customers are slow in making the payments.
New entrepreneurs make the mistake of selling their products on credit with an expectation of getting paid in time.
But it rarely happens and the credit time keeps increasing.
This could put you in tough situation.
You're left with little cash and it becomes difficult to carry out daily operations like purchasing raw material, paying utility bills, and salaries to the employees.
All budding entrepreneurs should not give their products on credit and if they do, it should be given to the customers who have a history of making payments in time. In addition, the credit amount should not be more than 10% of the total sales.
These 2 steps will shield you from cash-flow problems.
Moreover, you should look for innovative ways of invoicing your clients that make it easy for them to pay you like sending invoices through e-mails and offering them to pay online with multiple payment options or automatically sending payment reminders to those clients whose payments are due.
In case, the customer finds it difficult to pay the price in one go then you can offer him to pay small amounts monthly through the auto-billing process by giving credit or debit card details.
By implementing these techniques, you'll see that your credit customer will reduce, the cash-flow process will improve, and you'll have enough cash in the bank account to run and grow your small business.
When you start facing cash-flow problems then it is time to make changes in your business.
It is time to create a cash-flow budget to know type of the problem in your business.
The cash-flow budget will help you in the following ways:
If you're still short of free-cash then the best way to improve the cash-flow process is to cut the expenses.
Sit down and find out what can be cut?
If you can reduce the cost without much impacting the business then go ahead and do it.
This will give some extra free cash that will help you in running the business when your customers don't pay in time or you require urgent cash due to unforeseen circumstances.
Free cash gives you the confidence to run business operations with confidence when things don't work as planned.
Avoiding these mistakes will keep you floating during tough times.
Are you a new entrepreneur?
Please share your cash-flow problems in the comment section below.