How to Avoid a Small Biz Cash Crunch

Just about everyone is facing a cash crunch, and that can mean a big blow to a small business’s bottom line.

There are a variety of reasons why small firms face tight funds, but the frontrunner today is a precipitous drop in revenue thanks to the ailing economy, according to Bob Greenfest, a principal at accounting firm Santos, Postal & Co. in Rockville, Md., as people tighten their spending.

“Even the most prudent businesses that have operated in a conservative manner are having a drop in sales,” says Greenfest, who helps small businesses work out financial problems.

But one of the best ways to remedy such a drop is to build a relationship with your community, says Thomas Swartwood, an investment banker and entrepreneurship professor based in Des Moines, Iowa.

Here are the other big culprits that often lead to a cash crunch:

1. Undercapitalization
If a once-profitable firm passed those profits on to the owners, but didn’t leave a cushion for lean times, they’re not going to have enough capital. Plan for the down times as well as the good.

2. Allowing Expenses to Drive Revenue
Many companies justify expenses as a way to generate future revenue, but then find themselves in the red. “Some businesses will argue that they just have to have this new piece of equipment because it will get us new business or they just have to lease a new office space,” says Greenfest. While those reasons may be true, be wary of getting into debt without a surefire way to recoup those costs.

3. High Rent
This problem hits many retailers, especially in an economy where consumers are curbing spending. A retailer may have agreed to a high rent in a prime location several years ago, thinking a rollicking economy would make it affordable. Today, when times aren’t as good, that rent may spur the crunch. Make sure your can handle your beachfront real estate even if sales are low.

4. Overcrowded Inventory
Greenfest says he’s spoken with many entrepreneurs who insist they must stock every size or shape of the gadgets they sell, or (they believe) the customers won’t come. One small business owner told him that his business had to stock ladders in every different size to stay competitive. But when asked how many times in the last 20 years did they sell a 16-foot ladder, the answer was “one.” Greenfest advised that for certain inventory, it’s OK to tell the customer it may take a week to get it.

5. Reluctance to Talk Candidly with a Bank
Bankers and landlords like it when businesses are upfront with their problems, rather than waiting until the situation is dire. A business owner has a better chance of renegotiating payments if he’s forthcoming. But make sure you present them with a plan explaining why your cash flow is just a trickle and how you’ll work your way out of the current undesirable situation.