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Guide to Making Your Business Cash Flow Positive

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What is cash flow positive?

Businesses typically use numbers to describe their progress or business performance. Positive numbers point to good times and negative numbers represent the opposite. One number business owners pay attention to is cash flow, which reveals if a company has enough money on hand to meet its short-term expenses, such as rent, payroll and utilities.

The U.S. Small Business Administration defines cash flow as the amount of money that transfers in and out of a business during a certain period of time. Another way to think of it is that it represents the change in a business’ bank account. Deposits will increase the balance and withdrawals will decrease the balance. When deposits exceed withdrawals, your balance will be larger than it originally was, which means your business is cash flow positive. If it’s less, your business is likely cash flow negative. One U.S. Bank study found that 82 percent of businesses that fail do so because of cash flow issues.

Businesses want to be cash flow positive because it ensures their day-to-day operations are funded, enabling them to concentrate on growing the business instead of finding ways to keep the lights on.

What is free cash flow?

In essence, cash flow describes how much money a business has on hand to spend. Although the number is most often calculated for short-term expenses, you can also apply it to other ways a business spends or uses money. Free cash flow, for example, represents the money that’s left over after you subtract your business’ capital expenses from its operating cash flow.

Free cash flow can reveal several things about a business. It shows how much money you have available to pay dividends and investor payments and also reflects how healthy your business is. You should calculate cash flow over several time periods to get a true view of your cash flow as a whole. If you look at one period, for example, during a time when your business made a large, one-time capital investment, free cash flow will appear low for that period, even if the business had plenty of available cash during prior periods.

Why it’s important to manage your cash flow

Most businesses will experience a cash flow crunch at one time or another. And most business owners find ways to work around them, such as using money they saved from a previous cash flow positive period or a line of credit. The more frequently it happens, however, the more of an issue it becomes. It can deplete sources of funding that you might need elsewhere — such as for purchasing inventory — and monopolize your time.

It’s important to develop practices and strategies that can lead your business toward remaining cash flow positive. The SBA and University of La Verne’s Small Business Development Center offer the following reasons why you should manage your cash flow:

  • More accurate than a simple budget. Budgets are great for planning how you’ll meet expected expenses with expected revenue. Although that gives you an overview of your financial situation, simple budgets don’t offer a real-time view of the money that’s coming in and going out of the business.
  • Helps to forecast future expenses. La Verne SBDC recommends businesses forecast their cash flows for at least one year in advance. This is especially important for fast-growing businesses, which might have to spend more money than they receive. Don’t rely only on an income statement — also known as a profit and loss statement or statement of revenue and expense — because it can hide cash flow issues, especially if you use an accrual accounting method. Accrual accounting involves logging revenue and expenses as they are incurred, but not when the cash associated with each as it arrives or leaves.
  • Define the bigger picture. Cash flow reviews can reveal issues, including when unpaid customer invoices are the reason your business is cash flow negative. Pinpointing those times can help you direct your efforts toward solving any cash flow problems.
  • Convenience. You can easily be harness a cash flow positive period for other uses. You could some of that money to offset a period of cash flow negative or to schedule large purchases. Both initiatives can reduce or eliminate your dependence on financing, which can be expensive.

How does cash flow positive differ from profitability?

It’s easy to confuse cash flow positive and profitability. Although both describe businesses that make more money than they spend, one counts money and the other calculates it.

Cash flow measures a business’ liquidity — it’s tactile. You can count the money as it enters and leaves your business. Profitability, on the other hand, exists only on paper. You calculate it from adding up all of your business’ revenue and expenses — and it predicts the likelihood of it turning into a profit.

Some revenue and expenses affect cash flow and profitability, such as the sale of goods that are paid for immediately. Equipment depreciation, however, doesn’t deplete a business’ cash flow; instead, you log it as an expense when you use accrual accounting, thus affecting profitability.

When a business can be cash flow positive but not profitable

Cash flow comes from three sources: revenue, financing, and investments. If those add up to more than your business is spending during a specific period of time, your business is cash flow positive. Large amounts of financing and investments can mask small amounts of revenue. New businesses, for example, might be cash flow positive —thanks to startup capital — even though they haven’t made many sales.

When a business can be profitable but not cash flow positive

Businesses that rely heavily on seasonal sales — such as gardening stores or nurseries — or those that rely on reimbursements — such as healthcare practices — can be profitable, but often go through cash flow negative periods. That’s because they still have recurring short-term expenses  — payroll, rent, utilities, etc.) — but do not always have enough money from sales to cover them. When you consider the entire financial picture, however, revenue can exceed expenses.

Owners might keep the business afloat during cash flow negative times by tapping into other sources of money, such as personal savings or credit, a traditional small business loan or a merchant cash advance. They all come with risks and costs, especially merchant cash advances, which involve business owners paying the money back from future receivables.

How to calculate cash flow

Cash flow is a simple calculation. First, you determine a time period— a month is a good period because that matches the billing cycle for most short-term expenses. Next, add up all the money that enters your business during that time. From that total, subtract all the cash that leaves your business — such as checks and cash withdrawals — during the period. The difference represents your business’ cash flow. If there’s money left, your business is cash flow positive. If there isn’t any left, it’s cash flow negative.

How to become cash flow positive

Businesses don’t exist a cash flow positive state by pure luck. It requires planning, perspiration and persistence to achieve. The SBA and La Verne SBD provide a list of 10 ways you can cut costs — or make more — to becomes cash flow positive:

Cut expenses. The less money you spend, the more you’ll have on hand. This might be the easiest way to become cash flow positive — gains are free except for the time it takes you to identify them.

Sell more. Selling more products or services will bring in more cash, even if you hire salespeople and expand territories.

Charge more. If you can’t move more units or provide more services, consider charging more for your product or service — but be cautious. Customers who can’t afford the increase might go elsewhere, and if the revenue from remaining and new customers doesn’t offset those losses, your cash flow will only get worse.

Change when you pay expenses. Cash flow is usually based on shorter periods of time. If possible, try spreading out payments — or push some into different cash flow cycles. A cash flow forecast will reveal periods of cash flow positive, which is where you should move payments.

Other sources of cash. Savings, business lines of credit and other funding options can turn cash flow negative periods into positive ones. Just make sure you’re not ignoring your cash flow problem. Ensure your cash flow forecast includes enough income to afford any loan payments before you decide to borrow funds.

Change your draw. You might be uncomfortable with this, but reducing your draws — or increasing the time between them — could be enough to turn the business cash flow positive. It might act as an incentive for working on improving sales, too.

Re-examine vendor purchases. Try renegotiating contracts or lowering the price on items people regularly purchase, such as office supplies and even raw materials. Look for ways to consolidate purchases with one vendor and secure a volume discount. Look into about making purchases on credit, which could move payments to periods of cash flow positive and remove enough financial strain to turn around a period of cash flow negative.

Encourage early payments. Make it easy for customers to pay by adding online options or by offering discounts on payments they make before the due date.

Use a credit card for short-term expenses. Free up cash by charging recurring, short-term expenses. The key to this method, however, is to pay off the card’s balance in full before any interest accumulates.

Revisit collections process. Add stronger language to invoices, encouraging customers to keep their accounts current. Call customers, especially those who owe the most or usually pay late, and remind them their invoice is due soon.

The bottom line

When businesses operate in a cash flow positive state it makes daily operations easier. Having enough money on hand enables you, as a business owner, to concentrate on running and growing the business instead of being consumed with short-term expenses and repayments.

Take time to forecast cash flow, and schedule payments and large purchases when cash flow positive is predicted. Finally, don’t confuse cash flow positive with profitability, which takes into account revenue and expenses that don’t affect how much money is actually in the bank account.


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