In Part 2 of this blog post series on making cash flow simple and easy to understand, I showed you that “cash flow” is not a single number on your financial statements. And I talked about why now is the time to totally rethink (and greatly simplify) how you go about understanding and managing cash flow in your business.
In Part 1 of this blog post series, I shared the surprising results of my super-short survey that asked “How do YOU define cash flow in your business”?
In this post, we get to the fun part. It’s time to show you how to understand your cash flow in 10 minutes or less each month.
A Simple Definition for Cash Flow
I take a VERY different approach to defining cash flow. I like to take my CPA and CFO hat off and speak in common sense language that everyone can relate to.
Here is how I define cash flow – Cash flow is happiness!
That’s the definition of cash flow I would like you to use from now on. And I would like you to rate your cash flow on a scale of 1 to 10. Your Cash Flow Happiness rating is a fast and simple way to gauge the quality of your cash flow for the month. It provides information about whether your cash flow was good or bad. Whether you should feel confident or concerned about your cash flow.
Cash is a specific dollar amount.
But cash flow? Cash flow is Happiness. And we measure it on a scale of 1 to 10.
Sound crazy? Maybe. But the process for rating your cash flow can be fast and fun… and do wonders to help you create confidence and peace of mind in business. 😊
The Super-Fast Approach to Understanding Your Cash Flow
Here is the simple monthly process for understanding your cash flow.
Rate the quality of your cash flow on scale of 1 to 10. Ask yourself: “On a scale of 1 to 10, to what degree am I happy (satisfied) with my cash flow last month?” Where 1 is very unhappy (dissatisfied) and 10 is very happy (satisfied).
To rate the quality of your cash flow you need to answer these two questions:
- How much did the cash balance change?
- What caused the change?
The answer to question #1 is a dollar amount. And it is easy to calculate. It is the amount that your cash balance changed during the month. If the cash balance on your balance sheet at the end of June was $125,000 and the cash balance at the end of May was $100,000 then your cash was up by $25,000. Very simple and easy to get.
Your answer to question #2 is what I call the 2-minute conversation. The 2-minute conversation is where you understand your cash flow for the month so well that you can explain it to your business partner, banker (maybe even your spouse) in a simple 2-minute conversation. You do that by identifying the three largest drivers of cash for the month using the Cash Flow Focus Report. This is the secret to truly understanding your cash flow. Simple, fast, and focused.
The 2-minute conversation is similar to how you might answer the question: “How was the weather at your family reunion yesterday?” Your response to that question would be short and it would quickly communicate your “rating” of the weather yesterday. You might say: “The weather was awesome. It was 75 degrees, there wasn’t a cloud in the sky, and the breeze felt wonderful. We had a fantastic day.”
The 2-minute conversation is just like that… except we are quickly and confidently describing “what caused the change in cash last month”? Then your Cash Flow Happiness rating seals the deal by stating whether you are happy with your cash flow for the month. You are rating the quality of your cash flow in a simple, common sense fashion.
Here is what the 3-step process looks like.
A Real World Example
In Part 2 of this blog post series, I shared an example from a small business where their cash balance went down last month, but they were delighted with their cash flow. Here is the result of their review of cash flow for the month.
The 2-Minute Conversation: “Cash was down $50k for the month to $150k. The primary drivers of cash were a strong profit that came in better than our expectations, good collections on our accounts receivable from customers, and we paid off the final $100k of our debt.”
Our Happiness Rating for the Month: 10
The payment of their last $100k of debt is what made their cash balance go down for the month. They had been focused on becoming debt-free in their business for three years. Over that three-year period they had paid off almost $500,000 of debt. Now they have zero debt. They felt absolutely on top of the world. Their happiness rating was a 10.
This is a great example of how the 2-minute conversation provides a simple and fast understanding, explanation, and rating of your cash flow for the month.
The Cash Flow Focus Report
In my next post in this series, I will introduce you to a unique, you will never see this from your bookkeeper or accountant, tool that gives you a fun new superpower. It’s the Cash Flow Focus Report.
After you use the Cash Flow Focus Report for a few months, something interesting will begin to happen. The mystery around cash flow will begin to disappear.
You will find yourself spending less time worrying about what’s going on with the financial side of your business. You will begin making more confident business decisions because you have a better understanding of how your day-to-day decisions impact your cash flow (and your cash balance).
And best of all, you will free up more of your time to do the things you really enjoy in the business.
And it all starts with learning how to use the Cash Flow Focus Report.
Summary and Links to Other Posts in This Series
Here is a short recap and a link to each blog post in this series on making your cash flow simple and easy-to-understand.
Part 1 – The surprising results of my super-short survey that asked: “How do YOU define cash flow in your business”?
Part 2 – “Cash flow” is not a single number on your financial statements. Now is the time to totally rethink (and greatly simplify) how you go about understanding and managing cash flow in your business.
Part 3 – I use a VERY different, simple approach to defining cash flow. It is an approach where I take my CPA and CFO hat off and speak in a common-sense language that you can relate to.
Part 4 – The Cash Flow Focus Report is a simple, common sense tool for understanding your cash flow that takes 10 minutes a month. It brings focus to your cash flow, simplifies your life, and leads to an understanding and sense of confidence that you will find freeing.
Part 5 – The four reasons cash flow has always been so confusing and complicated for business owners (and for bookkeepers and accountants too).
Part 6 – I show you the 4-step process for completing the Cash Flow Focus Report. I walk through each step in the process using a real-life small business example. It’s a cool little company that was founded almost 20 years ago. It has grown nicely over the years and the owners love the business. Last month, the business showed a profit of $32 thousand. But their cash balance went down during the month by $6 thousand (from $116 thousand down to $110 thousand). The Cash Flow Focus Report shows what caused the change in cash.
Understanding the Drivers of Cash Flow – There are a number of different drivers of cash (in addition to profit or loss) that you will encounter as you complete the Cash Flow Focus Report each month. You will not run into all of them in one month because we are only focusing on the three largest changes, or drivers, of cash for each month. But as each month goes by, you will eventually see each one of these drivers impact your cash.
Understanding the Drivers of Cash Flow – Profit or Loss – Over time, profitability is a super important driver of your cash flow. You want to see profit show up in the list of your three largest drivers of cash regularly. While it is not unusual to have a month where profit does not make the list of top three drivers, profit needs to be there often, or you likely have a problem that needs attention. We also look at a number of ways to improve your profitability.
Understanding the Drivers of Cash Flow – Accounts Receivable – If you sell products or services on terms where customers do not have to pay you at the time you make the sale, you will have accounts receivable. And you will find that accounts receivable show up frequently as one of the three largest drivers of cash each month. I also share four steps for managing accounts receivable wisely.
Understanding the Drivers of Cash Flow – Inventory – If you sell products to customers, then you likely have inventory on your balance sheet. You buy inventory, pay for it, then ultimately sell it to customers. The fact that you buy the inventory weeks or months before you sell it to a customer (and possibly wait even longer before that sale becomes cash), creates a big drain on cash. I also share some tips and strategies for managing your inventory more effectively.
Understanding the Drivers of Cash Flow – Accounts Payable – The rules of accounting require that expenses be recorded in the P&L when they are incurred, not when they are paid. When an expense is recorded, the accounts payable balance on your balance sheet is increased by the amount of the expense. When it is paid, the accounts payable balance is reduced (as well as the cash balance being reduced) by the amount of the payment. I also share some tips on how to avoid the accounts payable trap when cash gets tight.
Understanding the Drivers of Cash Flow – Owner Distributions – Ultimately, the financial success of your business will be defined by the amount of excess cash it generates. That’s why I like to define a Happy Owner as an owner who is receiving healthy and frequent distributions of excess cash from their business. The trick though is how best to define excess cash. I share with you the general rule I use to help business owners think about their cash balance. And how much of their cash they can safely consider “excess” and therefore available to distribute to the owners.
Understanding the Drivers of Cash Flow – Capital Expenditures – A capital expenditure is the purchase of a large asset like a vehicle, or a building, or a leasehold improvement. Capital expenditures do not show up immediately in your P&L. They are recorded on your balance sheet as an asset then depreciated over the estimated useful life of the asset. The expense shows up in your P&L each month as depreciation expense. It’s this accounting treatment for capital expenditures that makes it very important that you manage it closely — very closely.
Understanding the Drivers of Cash Flow – Debt – Debt includes borrowing money and repaying it. Debt can play an important role in business. But it is a double-edged sword that must be managed with care and attention. I’ll share some tips on how to think about debt in your business…. and how to manage the risks that debt creates in your business… and the risks debt creates for you personally.
Philip Campbell is an experienced financial consultant and author of the book A Quick Start Guide to Financial Forecasting: Discover the Secret to Driving Growth, Profitability, and Cash Flow and the book Never Run Out of Cash: The 10 Cash Flow Rules You Can’t Afford to Ignore. He is also the author of a number of online courses including Understanding Your Cash Flow – In Less Than 10 Minutes. His books, articles, blog and online courses provide an easy-to-understand, step-by-step guide for entrepreneurs and business owners who want to create financial health, wealth, and freedom in business.
Philip’s 35 year career includes the acquisition or sale of 35 companies (and counting) and an IPO on the New York Stock Exchange.
Understanding Your Cash Flow – In Less Than 10 Minutes
This online course teaches you the step-by-step process for simplifying your cash flow. I walk you through each lesson while you watch, listen, read and try it yourself using your own cash flow numbers.
The course is very affordable. And there are also some coaching options available if you would like to get up and running fast.
It’s a fantastic way to learn the process.
I take all the risk out of your purchase because I include a 100%, no questions asked, money-back guarantee. You love it or you get your money back in full. Period.
There are two things that are very unique and exciting about this online course.
1. I’ll show you how to understand your cash flow in less than 10 minutes
2. I’ll show you how to explain what happened to your cash last month to your business partner or banker (or maybe even your spouse) in a 2-minute conversation.
I take off my CPA hat and I speak in the language every business owner can relate to. No jargon. No stuffy financial rambling. Just a simple, common sense approach that only takes 10 minutes a month.
Here is how one business owner describes the benefits of the course.
“I googled cash flow projections and found your website online and it appealed to me mainly due to the fact that you speak in laymen’s terms in a way that a non-financially trained person can understand.
The fact that you said you can understand your cash flow in less than 10 minutes a month was also a big reason I bought it. And the fact that you acknowledge that most accountants and CPA’s speak in terms that the normal owner cannot understand and that you would be able to put things in understandable terms really got me.
The monthly cash flow focus report was the best feature for me because learning to do it helped me understand my cash flow statements and the biggest drivers of cash flow.
Another significant benefit is the definitions of cash flow drivers and descriptions of how a negative or positive sway in cash within those drivers affects cash flow. Being able to see at a quick glance monthly what happened to your cash using the focus report is a huge benefit.”