Ecommerce is a tough business. Sellers face a multitude of challenges, from uncertain economic conditions to unexpected events threatening supply chains. The net effect of these events is an adverse impact on cash flow.
Cash flow management is a skill every ecommerce business owner must master. Unfortunately, many business owners focus on other areas of their business before prioritizing cash flow. A reason for this is the misguided thought that cash flow and profits are the same. If a business is booming at a given time and profit margins are high, it doesn’t necessarily mean that cash flow is steady.
The truth is, steady cash flow is a process every business owner must actively work on. If left unmanaged, it can come back to haunt in detrimental ways. That said, here are four cash flow management best practices that will ensure you’ll always have ample resources on hand.
Examine capital allocation workflows
Capital allocation is the most critical task an ecommerce business owner must face. Should they invest in a new product or marketing? Should they direct funds towards a new marketing channel or reinvest funds into channels that are working well right now?
No roadmap simplifies such decisions. Successful business ownership often boils down to regularly experimenting and observing what works and what doesn’t. Business owners must take calculated risks at all times and double down on what works well to generate outsized profits.
Examining capital allocation workflows is a critical part of this process. Ecommerce business owners must examine the results of their previous investments and note the opportunity costs too. Opportunity costs indicate the true impact of a decision, more so than simply looking at ROI.
This is a tedious process, but it can foster more growth than anything else a business owner can do.
There are tools that can help make this process a bit easier. For example, 8fig helps sellers understand the total cost of each of their products along the supply chain, including manufacturing, freight, logistics, fulfillment, and marketing. It also uses past sales metrics to project future demand trends, which helps sellers measure opportunity cost and make the right decisions at the right time, conducive to their cash flow needs.
Determine ideal inventory levels
Inventory is a significant expense for every ecommerce business. Despite modern business models going a long way towards minimizing the cost of inventory storage, stockouts are still an issue. A stockout is a situation in which a business does not have products on hand despite customers placing orders for them (i.e. not enough supply to meet demand).
However, stockouts are just one side of the inventory coin. The other side is when excess inventory eats up too much cash due to a lack of sales. This problem can easily compound if a business sells perishable goods, for example, which can only wait around in a warehouse for so long.
With poor inventory management, cash flow will take a direct hit. One way of managing inventory is to use a tool that manages your supply chain end-to-end, giving you visibility into stock levels. For instance, Oberlo connects manufacturer inventory levels and production schedules to your storefront’s stock numbers, automating inventory management. Even if using a tool, it’s imperative to constantly conduct inventory reviews to help you figure out optimal stock levels. You might have to increase the frequency of these reviews given the sales patterns your eCommerce store experiences.
Create An Emergency Fund
Cash flow management is best approached with a safety-first mindset. During good times, business owners tend to minimize the amount of cash they carry in favor of spending on growth initiatives. However, no one can predict when bad times will occur. During such times, cash on hand will not only ensure that a business survives, but even thrives.
An emergency fund might seem like a simple thing to install, but many business owners neglect to implement this advice. As a rule of thumb, a business must have at least six months’ worth of fixed expenses as cash in the bank. This cash balance will give the business a cushion it can lean on in various ways.
For one, this cash cushion reduces the impact poor investments have. For example, if a business’s new product line fails to match projected revenues, business owners can shift priorities without feeling a need to justify sunk costs.
Secondly, a cash cushion stabilizes the business during bad times. The company can keep its employees on payroll and continue ordering supplies. As its competitors suffer from tough conditions, the business can capture greater market share.
During good times, every business tends to rise, but real businesses are forged in tough times. Cash on hand during these times separates businesses that succeed over the long term instead of those that grow quickly before fizzling out.
Monitor gross margin fluctuations
An ecommerce business’s gross margins are extremely important. Typically, the cost of goods sold accounts for a significant portion of overall expenses. The higher a company’s gross margin, the more cushion it has to spend on marketing, sales, and other value-added activities.
Unfortunately, for ecommerce business owners, gross margins fluctuate depending on the state of the supplier’s business and the global supply chain. One way to facilitate smooth gross margins is to choose suppliers based in close proximity to a business or its customers.
For instance, if an ecommerce seller sells goods mainly in the United States, choosing suppliers based in the US or Mexico makes the most sense. These suppliers may not offer the lowest costs, but their proximity to business-critical areas will ensure minimal disruption and cost fluctuations.
In the long run, these suppliers will present lower costs than those located in far-flung areas. In short, suppliers located close to customers offer a greater margin of safety, helping businesses manage cash flow better and become more resilient.
Challenging but rewarding
Managing cash flow in an ecommerce business is not an easy task. However, it’s a skill that every ecommerce owner should learn if they want to see their business prosper. The tips in this article should get them one step closer to maintaining a steady cash flow level that will keep their business prosperous all year round, in both difficult and booming times alike.
