We have discussed ways to improve your cash flow: managing accounts receivable, controlling inventory, watching accounts payable and thinking about debt services. Today we will discuss the impact that owner draws can have on cash flow.
Many small businesses are set up as sole proprietorship's and/or single member LLC's. This type of entity requires the owner to get paid via owner or member draws instead of paychecks. A paycheck would show up as an expense on the Profit & Loss while a member/owner draw shows up as a reduction in equity on the Balance Sheet. Having the draw show up on the Balance Sheet rather than the Profit & Loss confuses many people as many focus solely on the Profit & Loss when judging the success of the business. They will see a profit for the period they are analyzing, but no money in the bank and wonder why. One factor may be those owner draws.
We have seen cases where the business is successful enough to support itself, but not enough to support the owner and his/her family. This may require changes on a personal level if the business is unable to improve it's cash flow. Unfortunately, we have seen cases where the business was a success on a small level, but not enough to support the owner's lifestyle which resulted in the failure of the business.
We will finish up next week with a discussion of taxes and how they can impact cash flow.