How to spot cash flow problems and solve them

Cash flow is the movement of money in and out of a business.

It’s vital to manage it effectively to keep your start-up running smoothly and operating successfully.

When it comes to cash flow problems, prevention is better than cure.

In this guide, we will help you proactively spot and fix various cash flow problems to prevent them from occurring.

This can help your business avoid running short on cash and stay financially healthy.

Understanding cash flow problems

Some of the most common cash flow problems start-ups face include:

• late payments – customers who don’t pay on time can create cash shortages, which can make it difficult to cover immediate expenses
• high overhead costs – expenses like rent, utilities, and salaries can quickly deplete cash reserves, particularly if they exceed revenue
• too much inventory – holding excessive stock ties up cash that could be used elsewhere
• small profit margins – low sales could result in small profit margins, which could make it difficult to grow and sustain your business
• need for sudden growth – to expand quickly, your business may need funds for inventory, staff, and equipment, which can put a strain on your cash flow
• no financial cushion – without a cash reserve, unexpected expenses or payment delays could severely squeeze cash flow
• poor bookkeeping – unprofessional accounting can make it difficult to accurately manage your start-up’s cash flow

Cash flow problems can occur in start-ups for a number of reasons, including low sales, limited financial resources, or a lack of experience in managing cash flow.

What are the potential dangers of poor cash flow?

Poor cash flow can lead to several issues for a small business.

A major risk could be failing to pay bills on time, which could damage relationships with suppliers.

This might also result in penalties or late fees for your business.

Cash flow problems could also lead to missed opportunities for your business.

Without sufficient cash, you might not be able to take advantage of growth opportunities such as investing in new projects or purchasing inventory at a discount.

The most severe consequence of poor cash flow is insolvency.

If your start-up cannot meet its financial obligations, it may be forced to close.

Insolvency can lead to bankruptcy, resulting in lost assets and – in some cases where there is evidence of mismanagement – directors being banned from running a business for a period of time.

Considering all of this, understanding and managing cash flow problems is essential for successfully running a small business.

Signs of cash flow problems

Identifying the early signs of cash flow problems could help prevent serious financial issues for your start-up.

Some indicators that you may face issues with cash flow include:

• frequent overdrafts – if you regularly overdraw your bank account, it could mean your business is spending more than it earns.
• increasing debt – if you’re using loans or credit cards to pay daily bills, your business might not be making enough money on its own.
• difficulty covering operational costs – if you’re having trouble paying for things like rent, utilities, or salaries, it shows that your cash flow isn’t enough to keep things running smoothly.
• delayed payments to suppliers – if you’re often late paying suppliers, it can damage relationships and show that you don’t have enough cash when needed.
• high accounts receivable – if customers take a long time to pay, you’ll have less cash available for other parts of the business.

To monitor the health of your start-up’s cash flow, consider the following:

• hold regular reviews of financial statements and cash flow reports
• use accounting software to track income and expenses in real-time
• conduct monthly cash flow forecasts to anticipate budget needs
• set monthly budgets to compare them to actual cash flow.

Preventing cash flow problems

There are a number of ways you can help to prevent cash flow problems for your business.

1. Build a cash reserve

Having a cash reserve could allow your start-up to keep functioning normally, even if your cash flow is slow.

This reserve can allow you to cover expenses without resorting to loans.

You could build a cash reserve by setting aside a portion of your monthly profits.

Every business is different, but a reasonable amount might be three to six months’ worth of profit to cushion your business as you work on improving your cash flow.

2. Implement effective invoice processes

Late payments are one of the biggest problems facing SMEs, with 52% of UK small businesses reporting them every quarter.

To reduce the risk of late payments, you could implement more effective invoicing processes.

You might consider using an automated system that tracks outstanding payments or introducing incentives (such as small discounts) to encourage earlier payments.

Keep in contact with regular customers, as a good business relationship can encourage them to pay sooner rather than later.

You could include a summary of payment terms in your communications closer to due dates or include a round-up in your invoices.

Read our full guide on how to create customer invoices for your start-up.

3. Manage expenses and cut unnecessary costs

Sometimes businesses spend more than intended.

For start-ups with limited financing, this could quickly become a cash flow issue.

Reviewing your expenses regularly can help you identify areas where you can cut costs.

Eliminating non-essential expenses, negotiating better deals with suppliers, or switching to more cost-effective ones could help keep expenses within budget and improve cash flow.

4. Conduct cash flow forecasts

A cash flow forecast is an estimate of future money coming in and out of your start-up.

Cash flow forecasts can help you budget by anticipating your future financial needs and identifying potential pitfalls.

This is why good bookkeeping is essential for a start-up.

Cash flow forecasts can be used to plan for slow periods or unexpected expenses, potentially making it easier to adjust your expenses and saving strategies.

Download our free cash flow forecast template.

5. Improve inventory management

Having too much inventory and not enough sales could tie up your start-up’s money in stock and storage costs.

To better manage your inventory, consider using inventory management software to track stock levels and sales trends.

This could help you avoid overstocking or stockouts (insufficient inventory levels), both of which can negatively impact cash flow.

6. Maintain good relationships with customers and suppliers

Having strong relationships with suppliers could lead to significant advantages for your start-up – including better payment terms and potential discounts.

Paying suppliers on time can help strengthen relationships, fostering a positive business environment.

Similarly, building strong relationships with customers could help encourage them to pay you promptly (or early) and return to your business in the future.

Efficient and transparent communication can be essential for managing customer expectations and quickly resolving any issues that arise.

How to solve cash flow problems

Despite your best efforts and careful financial planning, cash flow problems can still occur.

However, there are ways to solve them – consider these ideas:

1. Negotiate better payment terms with suppliers

Talk to your suppliers about extending payment terms, which could give you more time to settle bills and ease immediate cash flow pressure.

Suppliers may be open to negotiation if you have a good payment history.

2. Access short-term financing options

Consider short-term financing, such as a line of credit, to provide quick access to funds when needed.

Alternatively, invoice factoring lets you sell unpaid invoices to a third party for immediate cash.

These options can provide quick relief but should be used carefully.

3. Sales strategies to boost cash inflow

Consider marketing strategies like flash sales or discounts to quickly increase cash inflow.

These tactics could attract more customers and encourage faster purchases.

Check that discounts still cover costs to avoid long-term losses.

4. Streamline collection processes

You could send regular payment reminders to customers and consider offering incentives for early payment.

An efficient collection system can speed up cash inflow and minimise the number of overdue invoices.

5. Revise pricing strategies

Think about evaluating and adjusting your pricing strategy to ensure it reflects the value of your products or services.

Sometimes, minor price adjustments can significantly impact cash flow without deterring customers.

Analyse market trends and competitor pricing to make informed decisions.

Read more about how to strengthen your cash flow.

Smaller UK businesses can access cash flow support from several resources, including the British Business Bank, which offers information on financing options.

The Federation of Small Businesses (FSB) also provides advice and support for managing cash flow and dealing with financial challenges.