08.09.2024 | Posted by Erik
Decoding Cash Flow Problems: It’s Not Just About AR
When businesses face cash flow problems, the immediate suspect is often accounts receivable (AR). The thing is, stable AR doesn’t always translate to smooth cash flow. If your AR is in good shape but you’re still facing cash flow issues, it’s time to look beyond AR. There are several other factors that could be impacting your liquidity. Today, we’re sharing the advice that we give our accounts receivable outsourcing clients here at Axim. 
Understanding Liquidity Sources
Liquidity is the lifeblood of any business, and it’s important to protect it at all costs. The three main sources of immediate liquidity for most businesses include:
- Cash on hand or in the bank: The amount of liquid funds you have on hand or in your bank account.
- Open accounts receivable: The total unpaid invoices and other open AR you have on the books.
- Product inventory: This source is slightly less liquid, but still liquid if you have inventory. This is the total unsold inventory (for product-based companies) that you have on hand.
When your AR is healthy and you don’t have a huge backlog of past-due invoices, it’s time to look elsewhere. The current economic environment also plays a crucial role in liquidity.
- Borrowing Costs: Interest rates have risen significantly, increasing the cost of borrowing. By July 2023, interest rates had climbed from near-zero levels to 25-5.5%, and the Federal Reserve hasn’t cut the rates since then. When companies are saddled with higher borrowing costs, this can put more pressure on AR departments to speed up cash collection.
- Inflation and Rising Costs: Inflation has been an ongoing challenge since the COVID-19 pandemic. The Consumer Price Index (CPI) increased by 3% between June 2023 and June 2024, reflecting higher costs for goods and services. While this is lower than the previous year, it’s important to look at the trend over the four years since the pandemic, with year-over-year inflation levels exceeding the rate of around 2% that the Federal Reserve regards as healthy every year since 2021 — peaking in 2022 at 6.5%. Vendors facing increased prices often pass these on to their customers, which can lead to increased costs for businesses and thus affect cash flow.
- Inventory and Sales Trends: Retail sales often slow during the summer months, impacting cash inflow from sales. It’s important to be aware of and plan for any known seasonality in your industry.
Addressing the Cash Flow Conundrum
Even with a steady AR, the external pressures we mentioned above can strain your cash flow. Here are some strategies that we encourage our clients to keep in mind as accounts receivable management services providers:
- Reevaluate Pricing: In today’s economic climate, price increases are often expected. At Axim, we recently raised our prices for the first time in years without the anticipated negative impact. However, it’s important to be cautious — if your service is highly competitive, raising prices could drive customers to seek cheaper alternatives. There is always risk associated with increasing prices, so do your due diligence before moving forward with a price increase.
- Optimize Borrowing: Consider shopping around for the best interest rates to minimize borrowing costs. Even a small decrease in rates can alleviate some pressure on your AR department. Remember that, if your company is borrowing against AR, every payment that comes in goes to pay down your loan balance. This means that when you get paid sooner, you pay less interest — highlighting the importance of staying on top of collections and making sure you get paid as quickly as possible.
- Streamline AP Processes: As accounts payable (AP) increases due to inflation and higher costs, it’s important to manage AP effectively. Ensuring timely payments can help maintain good supplier relationships and prevent late fees.
Don’t Overlook AR Opportunities
While the external factors that businesses face today are significant, never underestimate the importance of fine-tuning your AR processes. You may find that you end up increasing cash flow along the way. We always recommend these best practices to our accounts receivable outsourcing clients:
- Change Payment Terms: Consider adjusting payment terms to encourage quicker payments, but only if it makes sense for your business. Weigh this decision carefully, as it may be a deterrent for some customers — especially big-box retailers who could easily replace you. It’s important to note that if you go outside of industry norms for terms, you’re likely to face challenges. Where net 30 is the U.S. standard for many industries, going less than 30 days will be a harder sell; whereas, if your current terms are net 60 or 90, there may be more room for discussion.
- Proactive Communication: Regularly touch base with customers when invoices are due to provide timely reminders. Don’t wait until invoices are past due to connect with clients.
- Credit Management: Avoid shipping to customers with risky credit profiles. You may feel tempted to fill any type of order when cash flow is tight, but the last thing you need is to put the company in a more precarious position by extending terms to an account that never pays.
- Restructure AR and/or AP: Outsourcing your AR and/or AP efforts to a reputable firm like Axim can potentially offer notable cost savings compared to running a full accounting department in-house. By combining outsourced AR and AP with advanced systems and automation, companies can save significant time and money.
The moral of the story here is that managing cash flow effectively requires a holistic approach. While maintaining a healthy AR is crucial, understanding and addressing the broader economic factors is equally important. Consider the strategies we’ve covered to help improve cash flow while sticking to your tried-and-true AR protocols.
If your business is looking to enhance your AR processes, Axim Inc. offers expert outsourced accounts receivable management services.