Recently, we’ve spent a significant amount of time talking about the cash conversion cycle, an estimate of how long it takes your business to receive the cash from a recent sale.
If you’ve been following along, you’ll know that I’ve been stressing the importance of building out systems and processes that will help you improve the cash conversion cycle. Today, however, I want to give a warning to businesses that are at risk of overdoing it.
First, make no mistake—strategies like speeding up the sales cycle, introducing progress payments, and tightening up your credit terms will boost your cash flow by leaps and bounds. But you must walk a fine line. If you’re not careful, these same strategies can come back to bite you, and there are a few scenarios you absolutely don’t want to find yourself in.
Like anything else in life, balance is key. A healthy amount of cash flow will help your company sustain itself as you grow and generate more sales. On the other hand, hoarding cash could very well become your business’s downfall.
We don’t want that, so let’s look at what you need to do to prevent this from happening!
3 Times When Chasing Cash Flow Becomes Dangerous
If you’re a savvy business owner, you want to avoid these three scenarios at all costs:
1. You’ve Become Terrified of Taking on Bad Debt
When the business owner becomes so concerned with bad debt, to the point of being paranoid about nonpayment, they can become overly stringent with payment terms and unnecessarily refuse credit to well-meaning customers.
Now, this isn’t a problem in and of itself. After all, if all of your competitors hold similar stances on payments, you’re unlikely to have an issue. However, if your business is the odd one out, you could experience a dramatic drop-off in sales. Those customers you’ve turned away will give their business to your competitors instead!
Instead, find the middle ground where you’re willing to work with new customers and allowing them to prove to you that they will pay on time. This minimizes your risk without hampering your company’s long-term growth!
2. You’ve Slashed Too Much of Your Business’s Inventory
Simply put, you need to have enough of your products and services in stock to not only meet the immediate needs of your customer base but also survive any potential ebbs and flows in production.
Cutting too much of your inventory just to preserve a strong cash position will hamstring your sales. This becomes especially problematic during your business’s busiest seasons or holidays.
Regardless of how much your customers know, like, and trust you, they’re not going to wait for you to stock up on something they really need. Rather, they’ll give their business to the next people in line—your competitors!
3. You’ve Built the Bad Habit of Delaying Payments to Vendors
Your company relies on strong vendor relationships to keep materials and supplies funneling into your business. When these relationships become strained or broken, it has a ripple effect throughout your business. You’ll quickly find that production slows down or, in some instances, comes to a screeching halt!
Even if your vendors are kind enough to tolerate your late payments or you find other vendors who will work with you, chances are that your business will no longer be taking advantage of your vendors’ prompt payment discounts and other incentives. Over time, these seemingly small deductions add up—eventually resulting in thousands of dollars lost.
Worse yet, strained vendor relationships can cause you to develop poor credit or a negative reputation. Once you are known as the business that doesn’t pay on time, you’ll find that other vendors are no longer willing to work with you. This is all because you allowed the fear of running out of cash to dictate how you do business with others!
The Bottom Line: Manage Your Cash, but Don’t Hoard It!
There’s no doubting the importance of a speedy cash conversion cycle. In fact, it’s the key to keeping your business afloat as you grow. But don’t allow your quest for more cash to become your business’s demise. Carefully manage your company’s cash position, but make sure you’re using common sense as well!