What are the three primary causes of cash flow problems faced by a small business? Explain cash flow management using the cash-to-cash cycle.

Question

What will be an ideal response?

Answer 1

Small businesses face cash flow problems on a daily basis due to (1) difficulty collecting money due from customers, (2) seasonal variation in sales, and (3) unexpected decreases in sales.
Cash flow management is a problem for small businesses because of the difficulty of matching the timing of the receipt of cash to the timing of the need to expend cash.
The time that is required for a business to acquire resources, convert them into product, sell the product, and receive cash from the sale is called a cash-to-cash cycle.
When an owner starts a new business, he or she puts in some money. The owner then buys all the things necessary to run the business, such as materials, supplies, rent, and labor. Some of these are purchased with cash. Other things are bought on credit, creating payables, which will have to be paid subsequently. The owner then uses labor to convert materials and supplies into products or services, which are sold to customers. The owner's customers then either pay immediately, or agree to pay soon. The customer's promise to pay are receivables, which the owner will collect in the future. The money the owner collects will then be used to buy the things necessary to run the business, and thus the cycle repeats. The time that it takes to complete this cycle can be as short as a few hours or as long as several years, dependent upon the type of business.