Accounting

Accounting and cash flow management

Accountants often advise new business owners of the importance of managing their company’s cash flow, regularly citing examples of how profitable businesses can fail due to poor cash flow management.  Yet the concept of cash flow is often lost on new business owners, primarily due to a fundamental misunderstanding of the differences between profit and cash.

The concept of cash flow is certainly easy for qualified accountants to understand, yet explaining this concept to non-financial business owners can be challenging for all parties at the best of times.

All accountancy practices need to make a concerted effort to step back and explain to new and existing clients the importance of cash flow, and offer advice on how best to manage the issue.  Experience has shown us that this message needs to be continually reinforced, even with larger business and more experienced and financially astute business owners.  As a business grows the chances are the volume of transactions and the complexity of the cash flow life cycle will increase dramatically, and accountants need to be prepared to proactively step in and advise their clients about how best to put in place the necessary safeguards to manage their cash flow effectively.

This is no laughing matter, and accountants need to reinforce the importance to business owners of their duties as directors (more information on this can be found at Companies House).  We have personally seen examples where clients have approached us with perfectly profitable businesses that had either overstretched themselves or had hit a bit of a bump in trading who simply had mismanaged (or is some cases completely ignored) their management of cash within the business.

The concept of insolvency is serious, and accountancy firms should ensure their clients fully understand what insolvency actually is.  You will be amazed at the definitions we have heard from clients.  Generally speaking, a business is insolvent when it fails to meet debts when they fall due.  The regulations, legislation, and director’s responsibilities surrounding insolvency are complex (and professional advice should immediately be sort), but with proper cash flow management techniques in place, accountants can at the very least identify potential cash issues is advance thereby ensuring the business and it’s owners are prepared for all eventualities.

Accountants that join our firm are given a set of guidelines to use to ensure they themselves understand the best way to brief clients on the issue of cash flow.

These are outlines below:

Cash flow life cycle:
It is your duty as an accountant to ensure that your client understands the concept of the cash flow life cycle.  This is best explained with a simple example showing the outflow of cash for goods ordered through to the sale of the goods and when cash payment is actually received.

Invoicing:
Accountants should stress the importance of accurate and timely invoicing.  Accurate invoicing will ensure that invoices are not disputed, a common issue many businesses face, particularly when dealing with larger firms.  Accountancy practices should ensure that they brief business owners on the typical process of invoice approval in larger firms, an internal process that can take weeks from the time the invoice is received by the clients purchase ledger function and is passed through to management for approval.

Accountants should also ensure that their clients understand the importance of issuing invoices in a timely manner, a common failure amongst many small businesses, and something that can easily be rectified.

Creditor Payments:
When taking on new clients accountants should ensure that they take a look at the firm’s purchase ledger process and the terms of their creditors.  Many new business owners will naively pay supplier invoices before they fall due.  It’s an accountants duty to point this out to their clients, with a particular emphasis on how making payments when invoices fall due rather than making early payments can have a positive impact on cash flow within the business.

Accountants should also consider asking their clients to approach their suppliers and requesting extended credit terms.

Forecasting Process:
Where possible accountancy firms should ensure that their clients undertake a cash flow forecasting process on a regular agreed basis.  Don’t hesitate to prepare standard cash flow templates on behalf of clients.  Many are happy to take the advice and in most cases you will find that these templates are actually used and go on to form a key part in the clients general accounting and cash flow management.

Taxation:
Taxation and the timing of tax payments form an integral part of the cash flow process.  It’s critical that accountancy practices advise their clients of the importance in meeting their tax obligations.  Income tax, VAT and corporation tax payments need to be recorded and managed effectively and the accountant can play a key role in ensuring this occurs within their clients business.