Cash Flow Problems: Causes & Solutions (SQA National 5 Business Management): Revision Note

Causes of cash flow problems

• Cash flow problems happen when a business does not have enough cash available to pay its bills or meet day-to-day expenses

• Even profitable businesses can face cash flow difficulties if money coming in and going out is poorly managed

The main causes of cash flow problems

1. Customers taking too long to pay

• If customers are given long credit terms or delay payment, the business may run short of cash

• Late payments reduce cash inflow and can make it difficult to pay suppliers or wages on time

2. Too much money tied up in stock

• Holding large amounts of unsold stock means that cash is locked up in products sitting on shelves rather than available for other uses

• Poor stock control can lead to storage costs and spoilage, further increasing cash pressures

3. Over-investment in new assets

• Buying expensive machinery, vehicles or equipment all at once can drain available funds

• Although these assets may improve efficiency in the long term, they create short-term cash shortages

4. Low sales revenue

• If sales fall due to reduced customer demand, increased competition or poor marketing, less money flows into the business

• With fewer sales, the business may struggle to cover regular outgoings like rent, wages and supplies

5. Suppliers not offering credit

• If suppliers require immediate payment or offer only a short credit period, cash can leave the business quickly

• This creates a mismatch between when the business pays its suppliers and when it receives payment from customers

6. Increase in costs

• Unexpected rises in costs, such as energy bills, rent or raw materials, can quickly reduce available cash

• If prices charged to customers are not increased at the same time, cash can become tight

7. Excessive drawings

• In small businesses, if the owner withdraws too much money for personal use (known as drawings), it can leave the business without enough funds to operate effectively

• This can cause delayed payments or reliance on short-term borrowing, such as overdrafts

Solutions for cash flow problems

• There are several ways in which a short-term cash-flow problem can be resolved

Solving short-term cash-flow problems

• A business often uses more than one method to ensure cash-flow remains positive, e.g. combining an overdraft and reducing the time period available for their customers to pay them

Methods used to overcome short-term cash-flow problems