Cash flow made easy
How healthy is your cash flow?
Financial statements are important, but you’ll have to go beyond the figures to get the full picture. Here are 5 simple ratios that’ll give your business a full financial diagnosis and help determine the health of your cash flow.
1. Current Ratio
The current ratio indicates your business’s liquidity and tests your ability to pay short term debts from short term resources. A ratio of 2:1 is considered acceptable, but this can vary from one industry to another.
To improve your current ratio, you can:
- Inject more capital
- Increase long-term funding
These options will allow you to take care of current debt or acquire more current assets.
2. Debtor Days
Debtor Days is used to measure the average time it takes for you to collect payment from debtors. A high figure means your cash flow may be in trouble. Always aim to get paid by debtors on time.
3. Creditor Days
Creditor Days establishes the average number of days it takes you to pay creditors. A high figure can work to your advantage as it’s a great way to fund your business. On the flip side, delaying payment may result in the creditor only offering cash on delivery.
Your best option is to simply pay your debts when they are due, but no sooner.
4. Inventory Turnover Rate
The inventory turnover rate establishes the average rate of inventory turnover in your business. A low turnover may indicate overstocking or carrying obsolete stock. If it’s too high, it may mean you don’t carry enough stock and could potentially miss out on sales.
The Work in Progress figure estimates the average number of days it takes from the time expenses are incurred to the point they are billed. A lower number is usually good as it means your business has invoiced the work in progress to your client.