How to improve cash flow in a manufacturing business?

How to improve cash flow in a manufacturing business?

Business

The dynamics of modern markets push every manufacturing business owner to plan a steady cash flow. With increasing globalisation, competition, and prices of raw materials increasing every day, there is a lot to manage anyway. While your day-to-day challenges are growing, customers are always looking for better quality at a lower price.

By now, you might have some cues why making cash flow important to a business is a crucial consideration. A positive cash flow will always keep you up and going, while a negative one can leave you bankrupt. So, it is important to take the necessary steps to improve your cash flow.

Cash flow challenges manufacturers commonly face

Before knowing how to get things right, it is essential to understand the aspects of going wrong. First, you need to address the following issues you might have and then find ways to manage a healthy cash flow:

  • Not analysing the business cycle length

As soon as you start, it would help if you took measures to analyse the length of your business cycle. It simply means understanding when you buy raw materials and the duration to produce and sell final products.

The process of buying raw materials to selling goods can take weeks or months. So, the working capital you invest in-between is an expenditure you make without getting quicker returns.

Before completing one cycle of purchasing, producing, and selling goods, you might need to buy more raw materials. On one end, this ensures that there is no pause in the production process, but it doesn’t mean you still get your returns timely.

Now, you might have COD options or 30/60-day end-of-month payment processes for suppliers. You will still have to pay for the goods you’re purchasing before receiving money for the sales. Moreover, different suppliers might levy distinctive terms that you need to adhere to.

Now, after selling the product, you could have to wait more days before getting cash. So, not having enough working capital can turn your cash flow into a negative one. It is crucial to understand that the process of payments would take time, especially when starting.

  • Not calculating all types of costs

Your raw material purchases are definitely a major expense, but it is not the only one. There are many other expenses like wages, energy bills, loans, and miscellaneous expenses. Your working capital is responsible for paying off such bills as well.

Not having a healthy cash flow will make you juggle your payments. You might have to hold onto some payments, which can create a bad impression or result in late fees.

  • Not foreseeing unforeseen circumstances

International payment terms have become stricter since the onset of the pandemic. It led to several credit insurance limits restricting credit terms for suppliers. The process made suppliers ask for quicker payments and put a strain on the manufacturers’ cash flow.

If you have gone through this experience already, you will know the financial pressure it brought along.

On the other hand, the end customers also faced financial pressure to pick and choose products wisely. An ongoing cash crunch probably delayed payments and disrupted your ideal cash flow.

Such circumstances can happen at any time and due to several factors. It is necessary to be financially sound to withstand such scenarios. 

  • Understanding business climate

There can always be chances of uncertainty in social and economic conditions. These can also impact cash flow strains for your business.

Buying patterns can change significantly, forcing you to make changes in your production. For example, the pandemic showed us the importance of purchasing essential items over non-essential ones. If the products you sell fall under the non-essential category, you probably saw a decline in the number of sales.

There can also be issues with your suppliers where you had to import materials. The supply chain overseas is tough to navigate during crises. Moreover, lock downs impacted domestic supplies as well and definitely restrained the production process.

Ways to improve cash flow for your manufacturing business

Let us look at some of the steps you must take to improve a healthy cash flow. The following will help you safeguard your finances, especially during tough times:

  • Ensure financing viability

If you see stagnancy or growth in inventory and receivables, it is wise to rely on them and materialise your credit lines. It will give you an immediate cash flow to rely on and create enough savings to meet future requirements.

Now, you must be thinking, why should you borrow money when all’s well! Consider financing options that are available to you currently but might not be when customers extend payments.

As your receivables are delayed, you will be less likely to obtain loans from financial institutions. Again, using lines of credit when you have credibility can set you up for the long term.

  • Keep a look at your balance sheet at all times

It is also important to shift focus from profit & loss statements to balance sheet and working capital. This is because your balance sheet will give you a roundabout view. So, you can forecast receiving payments and prevent mismanagement towards cash outflow. It helps you align the assets better and gives you a better direction to know where your cash is going or where it should be.

Your P&L statement lets you have a rough overview of operations. However, you need to update your balance sheet to understand your cash commitments for the following one to three months. It will help you manage cash flow better and streamline your requirements accordingly.

  • Streamline processes to meet requirements at all times

When an economy faces downturns, the immediate reaction of a manufacturer is finding ways to cut costs. However, one aspect you need to consider is the ability to streamline existing manufacturing processes. You will want to evaluate a time where the economy rebounds and you have a stronger hold in the market to capitalise accordingly. 

It would help if you also considered having enough working capital to maintain a steady manufacturing process when the demands are down. The assessment to understand how soon you can bounce back and have enough supplies to sustain is also crucial. Note that you don’t just need enough funds to maintain a streamlined process but also the assurance that the products will ultimately sell when times are better.

Read more: New Small Business Ideas in India 

  • Consider cooperative purchasing

Cooperative purchasing can help you manage your money better. It can help manufacturers just starting. Simply look for organisations that need similar raw materials as you do. Collaborate with them to make bulk purchases and make use of significant discounts.

The money you save helps you retain better working capital and maximises growth potential. It also reduces the overall cost of production and lets you meet more people who face similar challenges as you do. Consider making similar cooperative decisions that can not only help you save some money but also gain professional relationships.

  • Keep buffer money at all times

It is evident that every manufacturing business needs funds to start and significantly wait for returns. Initially, you might be facing losses, and you need to keep putting in money and await breakeven.

Once you reach the breakeven point and slowly see growth, you need to ensure that your business has enough working capital you need. It is recommended to maintain a three-month worth of payments you have to make without expecting returns. 

Even if your business kicks start from the very beginning, you will still require buffer funds to survive during a rainy period. If you consider adding your funds, you need to analyse carefully not to put everything at stake.

  • Offer a discount to get quicker payments

Discounts often entice customers who like to buy more. It is one of the smartest ways to get paid faster. Offering discounts that do not put you in losses can help improve cash flow during troubled times.

Such steps can also help you better align your payments to suppliers. You can strategically manage cash outflow and also take advantage of supplier discounts when paying in full.

  • Lower levels of safety stock

Usually, manufacturers maintain high inventory levels and expect faster orders. But it is important to move ahead practically not to incur losses. Your strategies towards appropriate inventory management ensure maintaining proper cash flow. It also helps you keep your ability to supply the expected number of orders. 

  • Ask for deposits for custom/long-term order

When working on custom or long-term orders, evaluate your payment terms in advance. You can make a deal to get payments after covering each milestone. While this decision majorly depends on your customer, you need to set such rules. Such rules significantly help maintain cash flow and make you follow a disciplined format you set for yourself.

Final thoughts

A healthy cash flow is only possible when there is an accurate estimation made ahead of time. Since the process of manufacturing, distributing, selling, and earning is lengthy, business owners must be well aware of the time it can take to see significant returns. Manufacturing businesses, irrespective of the size, need substantial funds to startup and running. So, it would help if you analysed all these aspects never to have a negative cash flow.

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