Managing cash collections probably wasn’t what drew you to entrepreneurship in the first place, but it’s a crucial part of running a business. At the end of the day, no business can sustain itself without cash -- this is especially true for a bootstrapped startup.
Eighty-two percent of businesses are forced to close their doors due to inadequate cash management. While that statistic might be alarming, you can save your startup from this fate by restructuring your cash collections to work for you rather than against you.
In an ideal world, you receive payments for the actual value of the services you provide during a specific time period. This is called cash basis accounting, and it offers a clear view of the amount of resources you’re expending and the corresponding cash flow. Therefore, you can focus on renewal marketing once a year as opposed to every week or month.
However, most startups use accrual accounting -- recognizing revenue when it’s earned rather than when payment occurs. This becomes a problem when a startup bills a customer after providing an entire year’s worth of service and the customer pays late or not at all. This kind of situation can pose a serious threat to your business.
To maintain your company’s health, use these six tips for an effective cash-collection system:
1. Bill up front.
Ask customers for payment on delivery, and only accept Automated Clearing House or credit card payments to avoid uncertainty or delay in payments. You can also enforce or encourage pre-payment. While some customers may be deterred by high upfront costs, discounts can win them over, and late-payment charges can reduce overdue accounts and help you predict cash flow needs.
2. Handle your invoices with care.
Make sure you send your invoices far in advance. If you don’t give your customers enough notice, you’re practically asking for late payments. Also, track all outstanding invoices, and have a system in place for credit guidelines and follow-ups. If you need help with outstanding invoices, use collection services such as ZenCash.
3. Limit your free trials.
Some startups spend a lot to acquire customers or offer extended free trials to quickly grow their customer base, assuming they’ll recover these early costs over time. The problem is that this time frame can stretch on for years, and it’s hard to tell whether a customer will stick with you over multiple years. Don’t waste your time playing catch-up with your net cash flow. Instead, ensure a payback period of less than a year, and auto-renew annual contracts.
4. Be accountable.
\If you don’t have a clear budget and proper accountability, you’re almost definitely losing money. Early-stage startups seldom have the resources for a full-time CFO, but if you aren’t diligently recording spending, you have no way of knowing if you’re going over budget.
5. Understand what each dollar spent is getting you.
For example, you might spend thousands of dollars getting booths at trade shows or hosting industry events and assume a certain return, but this estimation is unscientific and often inaccurate. Use a tool such as BrightFunnel to clarify this kind of spending and make sense of other areas of your budget.
6. Practice smart inventory management.
Early-stage companies often overlook proper inventory management. While it’s important to ensure sufficient supply, startups tend to overstock or pick the cheapest transportation options, which can actually be more expensive once you take idle inventory costs into account. To fix this, implement a simple economic order quantity model. You can find EOQ templates for most businesses online. Another option to improve your inventory management while reducing your idle inventory is to speak to banks that offer inventory financing so you don’t have to tie up cash.
If you want to grow big enough to be able to delegate this work, you have to manage your cash collections well now. Otherwise, you could find yourself drowning in debt. Get the money you’ve earned, stop wasting precious resources, and enjoy the extra room in your budget.