Strategies to Improve Cash Flow (HL IB Business Management)

• Business investment involves the purchase of assets that are expected to create value over time
  • E.g the purchase of new machinery will improve productivity or quality which may allow the business to sell more items at a higher price and this increases sales revenue
     
• Financial investment may include the purchase of shares, bonds or property with the expectation that they will gain value over time
  • For some businesses this is an important source of income alongside their core business activities
    • E.g. US supermarket giant Walmart owns and leases over 10 thousand residential and commercial properties worldwide which act as as important added revenue stream for the brand
      
      

Changes to Investment, Profit and Cash Flow as a Business Grows

Investment, profit and cash flow over the lifetime of a business
 

• The challenges for business start ups are evident from the image above
  • They require significant investment from owners, receive little profit - and often have negative cash flow
     
• Established businesses find themselves ina more sustainable position
  • They still require investment from owners (but less), receive some profit - and usually have positive cash flow
     
• Large business require little or no investment from the owners, generate high profits - and have positive cash flow

• The best way to improve cash flow is to manage the business better
  • Use cash flow forecasts to identify potential cash flow issues before they arise - and take appropriate action
  • Budget effectively and consider adopting zero budgeting to carefully control spending
     

• A business can also have too much cash
  • If a business is holding large amounts of cash it is likely to be missing out on the benefits of investing it in fixed assets or investments
  • This may represent a significant opportunity cost especially when interest rates are high
     

Methods to Improve Cash Flow

Method	Explanation
Reduce the credit period offered to customers	Collecting money owed from customers more quickly will increase the level of current assets in the business However, customers may move to competing businesses that offer better credit terms
Ask suppliers for an extended repayment period e.g an extension from 60 to 90 days	Current liabilities will not be reduced The business can use cash it would have paid to suppliers for other purposes Suppliers may be unwilling to extend credit terms
Make use of Overdraft facilities or short-term loans	Current liabilities will increase The business can spend more money than it has in its bank account Banks may be reluctant to lend to businesses with cash-flow problems
Sell off excess stock	Less liquid current assets will be reduced and converted into more liquid forms of current asset (e.g. cash) Storage and security costs may also be reduced Stock may need to be sold at a low price to attract sales
Sell assets and lease fixed assets instead (e.g. sale & leaseback	Both current assets and current liabilities will increase The business will continue to have the use of assets but must make regular payments to the leasing company
Introduce new capital and reduce drawings from the business	Current assets will be increased New capital may be introduced by the owner or from additional investors This may result in the dilution of control of the business