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Small Business Finances 101: Making Payments

We’ll admit that its more pleasing to collect payments rather than make them, but you can organize your business to optimize how you make payments so that you minimize their impact. There are two ways you can optimize your payments – when you pay them and how you pay them.

Timing Your Payments

A good rule of thumb for timing your payments to minimize impact to your cash flow is this: Delay payments to vendors and suppliers until they are due, unless you can receive a discount for early vendor payment.

Many suppliers offer terms like 2/10 net 30, which means you get a two percent discount if you pay the bill within 10 days, and that in any event you have to cough up the money within 30 days. A two percent discount might not seem like much, but don’t forget that you earn it by accelerating a payment by only 20 days. That works out to a colossal annual percentage rate (APR) of 36.7 percent, which means you can cut your vendor cash outflow by more than one-third simply by taking advantage of this discount. Where else are you going to make a return like that?

Payment Methods – Business Checking Accounts

You set up a business checking account, or at least you should have, when you launched your business. There are three ways to pay from your checking account, and they each work best for different situations:

  1. Paper checks: You can write checks manually if the volume is small, but let’s assume you are running your business using some sort of software support, such as QuickBooks or an accounting system with accounts payable (A/P). In these types of programs, you set up all your payee classes, such as vendors, employees, customer refunds, tax payments and so forth. The system will prompt you to write checks when due, but more importantly, it will print the checks on your local printer. You’re too busy to write checks by hand, so printing them is a must. If you are a larger company, you might use a bookkeeper who will perform this function for you. You can also have the system print and mail checks to your payees from the cloud, so that you never have to physically deal with paper checks. QuickBooks supports regular and one-off auto payments this way.
  2. Debit card: You might use a debit card when making certain types of purchases, such as office supplies, business travel and entertainment, or even tax payments. The card is handy for both online and in-person payments, and there is usually no fee for using it. The only warning is to make sure your checking account doesn’t become overdrawn, causing the debit transaction to fail and even cost you penalty fees. (The same precaution applies to checks you write). Debit cards can be linked to electronic wallets, so that you can make a debit payment from your smartphone without having to whip out the plastic card.
  3. ACH electronic payments: You can authorize automated clearing house (ACH) electronic payments from your checking account, either on an individual basis or by setting up an auto-payment schedule with a payee. The latter is appropriate for monthly expenses such as rent, insurance and so forth. It’s also regularly used to pay employees electronically. On the payment date, the money is wired from your checking account to that of your payee’s. No checks are involved. You can set up ACH payments to push them out at your discretion, or to have recurring payees pull them from your checking account.

Other Payment Methods

Although you’ll handle most of your major business payments with your checking account, you can also optimize your other payment methods to make sure you’re using your money wisely.

  • Cash: Stay away from cash for everything except petty purchases. It’s a hassle to account for and creates problems when doing your taxes since you have to provide evidence for payment of your deductible expenses.
  • Credit card: A business credit card is useful, especially if money is tight and you have to spread out payments. Be aware that interest rates can be high, and that credit cards aren’t appropriate for some types of payees, such as employees.
  • Loans and lines of credit: When you need extra money, a loan or line of credit makes a lot of sense. One advantage of a commercial loan from IOU Financial is that you repay the loan in small daily installments via automatic ACH payments. Not only is this convenient, it means you don’t have to contend with large monthly payments.

If you’d like to learn more about making payments and other basic aspects of running a business, download the e-book “Cold Hard Truth on Small Businesses and Money,” written by Kevin O’Leary, star of ABC’s Shark Tank. There is no one better to answer questions about your small business payments than the small business expert himself!

How Your Assets May Not Be Working As Hard As You Are

Why A Cash Flow Loan is Better Than Collateral for Business

Assets are the things your business owns. They include short-term ones, such as accounts receivable, cash, and inventory, and long-term ones, such as plant and equipment, intellectual property and goodwill. A business’s job is to convert assets into revenues and profits. If you are not fully leveraging your assets to help your small business grow and thrive, you could be missing out on profits.

There are two major ways that assets can be put to work by your business.

  1. Cash Flow Generation: Whether you are a merchandising company selling inventory, a manufacturer turning raw materials into finished products, or a service-oriented company relying on office space or equipment, you are using assets to generate revenue. The cash flow generated from your business assets can be put to work as the basis for obtaining a loan from an alternative lender. While banks look only at credit ratings, alternative lenders are usually much more interested in daily cash flows and lend based on healthy flows. A loan means working capital to pay down more expensive debts, purchase equipment, increase inventory purchases, expand operations, acquire a competitor or otherwise leverage your revenues so that the additional profits exceed the modest interest costs.
  2. Collateral: Another way to make your business assets work is to use them as collateral. Some lenders, often called factors, will make a loan collateralized by your fixed assets, such as plant and equipment, or backed by your accounts receivable or inventory. In an A/R loan, the factor advances you about 70 to 80 percent of the invoices it accepts, and then pays you the remainder, minus a financial fee, when the invoices are paid. This speeds up your business cycle by allowing you to purchase more inventory faster. It also relieves you of the headache of trying to collect from people or companies who are overdue. You can also sell your A/R for a fixed price to a collection agency.

Comparing the Two Methods

Both of these methods deliver capital to grow your small business, but there are advantages to cash flow generation instead of leveraging assets as collateral.

When you use assets as collateral in factoring, it puts pressure on your sales margins due to the fees you are charged when you pledge assets or the loss you take by selling assets. Also, if you sell your A/R, you could alienate your customers if they start being contacted repeatedly by a collections agency that is unknown to them.

In general, taking out a loan for cash flow generation is the better deal. Rather than tying up your main assets or, in the case of collections agencies, even selling them, you keep your business assets and maintain control. You also get a full sum of money rather than a percentage advance to use as you see fit, and you avoid the financial fees of factors. As long as you have daily cash flow and a solid plan, the profits generated from the additional inventory, expansion, or other project made possible by your loan will be a permanent gain that will let you pay down the loan comfortably. Now that’s putting your money to work!

If you’re ready to try cash flow generation, IOU Financial is a great starting point to find out what a loan can do for your business. You can work with a Small Business Loan Consultant to take you through every step of the process, and we approve 85 percent of applications we receive, including many people turned down by banks. Our base requirements are that you own at least 80 percent of the business, have been in business a year or longer, make 10 or more deposits per month, and have annual revenue of at least $100,000. To get started, give us a call at 866-217-8564.

 

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Understanding How to Manage Capital

Cash is the lifeblood of small businesses, because often they do not have alternate sources of small business funding. A company’s current assets minus its current liabilities are its working capital. Cash and its equivalents — short-term Treasury bills and commercial paper — plus assets that can become cash within a year, such as accounts receivable, inventory and negotiable securities, are current assets. Debt due within a year, accounts payable, taxes payable, wages and salaries payable and other short-term liabilities are current liabilities. It’s up to you to choose how aggressively or conservatively to manage your working capital.

Aggressive Management

The use of short-term credit coupled with minimal spending on current assets characterizes aggressive management of working capital. You are basically operating on a restricted budget, cutting purchases of supplies and inventory to the nub while delaying bill payment for as long as possible. You also aggressively try to collect your A/R. You must not delay interest payments or tax payments. Your creditors will sue and might force you into bankruptcy and liquidation. The Internal Revenue Service takes a very dim view of missed tax payments. The proper use of convenient commercial small business loans, such as those available from IOU Financial, is a vital component in managing your working capital in an aggressive manner.

Conservative Management

At the opposite end of the spectrum, your working capital policy might be conservative: plenty of cash in the bank, inventory levels fully stocked and all bills paid on time. Your supply cabinets are full and employees need not justify a requisition for a new pencil. Typically, a conservative policy has a working capital ratio — that’s current liabilities divided into current assets — of 2 or greater. In other words, for every dollar of current liabilities, you have $2 of current assets. Following this less-risky policy, you’re not anticipating a cash crunch, but you might be getting a lower return, because cash in the bank doesn’t pay much. In effect, to buy some peace of mind, you are sacrificing profits and returns, because you are not leveraging your small business financing. The proper use of credit can help correct a capital management style that is too conservative.

Risk

As you make your working capital policies more aggressive, default and bankruptcy risk increases. For example, if you have little cash on hand and encounter a sudden emergency, you might have to default on an interest payment. Debtors might seize your property or wrestle the company away from you. This is precisely the time to take out a convenient commercial small business loan to get over the rough spots. In a less drastic example, if you skimp on inventory replacement, you’re vulnerable to stock outs, lost sales and alienated customers. Your vendors might stop doing business with you if you string them along for several months before coughing up payment. If you want to float new debt, your deteriorating credit rating will raise your interest rates and make it harder to find new lenders. A commercial loan is the best recourse in these circumstances. Conversely, if your working capital policy is too conservative, you incur opportunity costs by not working your money as hard as possible. This can lower your sales efficiency ratio — working capital divided into sales revenue — which can discourage investors in new debt and equity. Use small business loan proceeds to leverage you operations and increase you return.

Return

An overly aggressive policy increases your return on assets, but hurts your bottom line by lowering your inventory levels and crippling sales. However, the proper use of credit can avoid these problems while maintaining healthy returns. A conservative policy creates some lazy money that doesn’t earn much of a return. The optimal working capital policy lies somewhere between the two extremes. Your goal is to minimize risks while maximizing revenue — experience and experimentation will help you get it right. In just about every situation, consider the use of a commercial lending facility to optimize your return while managing your risks.