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How to Effectively Manage Cash Flow to Grow Your Business

Noah Parsons

11 min. read

Updated June 12, 2025

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What is Cash Flow Management?The Three Jobs of CashHow to Set Your Operating, Strategic, and Reserve Cash BalancesCommon Cash Flow Management IssuesManage Cash Flow with a Cash Flow ForecastAdditional Tips for Managing Your CashKey Metrics for Cash Flow ManagementManaging Cash Flow for Long-Term Growth

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What is Cash Flow Management?The Three Jobs of CashHow to Set Your Operating, Strategic, and Reserve Cash BalancesCommon Cash Flow Management IssuesManage Cash Flow with a Cash Flow ForecastAdditional Tips for Managing Your CashKey Metrics for Cash Flow ManagementManaging Cash Flow for Long-Term Growth

Here’s a hard truth every business owner learns eventually: cash and profits aren’t the same things. You can have a thriving business on paper, with growing revenue and happy customers, but still find yourself scrambling to make payroll or pay your suppliers. Why? Because cash—not profits—is what actually keeps your business running and growing strategically.

Think about the difference between cash and profits this way:

Profits are like a report card that shows you how well your business is performing: Is the revenue you get from customers greater than your expenses? If so, you’re profitable.

But just because you’ve made a sale doesn’t mean your customer has paid you—think about invoices, payment terms, etc. And you can’t spend or save money until you actually have it.

Cash is like having money in your wallet right now to buy what you need. And when it comes to making strategic moves—hiring that key employee, investing in new equipment, or expanding to a new market—you need cash in hand, not just paper profits.

The good news? Effective cash flow management isn’t rocket science. It’s about understanding how money moves through your business and making smart decisions to keep enough cash flowing in the right direction at the right time.

What is Cash Flow Management?

Cash flow management is using a system that shows you historical payment and spending patterns and predicts future cash spending and cash deposits. But let’s break that down into plain English.

Cash flow management is simply keeping track of when money comes into your business, when it goes out, and making sure you always have enough on hand to operate smoothly. It’s the difference between reactive “oh no, we’re out of money” moments and proactive “we’ve got three months of runway, so let’s invest in that new marketing campaign” decisions.

Most businesses need to wait for customers to pay while at the same time needing to purchase more inventory, pay payroll, or fulfill other obligations. This timing mismatch—when you spend money before you receive it—is at the heart of most cash flow challenges.

The Three Jobs of Cash

Every dollar in your business bank account has one of three jobs. Understanding these roles will completely change how you think about your money:

Operating Cash: This is your day-to-day money. It pays rent, covers payroll, buys inventory, and handles all the regular expenses that keep your doors open. Without sufficient operating cash, you’re constantly playing catch-up and making reactive decisions.

Strategic Cash: This is your growth money. It funds new equipment purchases, marketing campaigns, product development, or expansion into new markets. Strategic cash is what transforms good businesses into great ones, but you can only deploy it when your operating cash is stable.

Reserve Cash: This is your sleep-well-at-night money. It’s your buffer against unexpected expenses, economic downturns, or temporary revenue dips. Reserve cash gives you the confidence to take calculated risks because you know you can weather short-term storms.

Here’s the key insight: You need to consciously allocate your cash to each of these three jobs. Many business owners treat all cash the same, which leads to either being too conservative (never investing in growth) or too aggressive (spending strategic or reserve cash on operations).

How to Set Your Operating, Strategic, and Reserve Cash Balances

Now that you understand the three jobs of cash, let’s talk about how much money to allocate to each role. Think of this as creating three separate “buckets” for your cash, each with its own purpose and target balance.

Setting Your Operating Cash Balance

Your operating cash needs to cover the natural ebb and flow of your daily business operations. Start by calculating your monthly cash burn rate—how much cash your business uses in a typical month to cover all operating expenses like rent, payroll, utilities, and loan payments.

Most businesses should maintain 1-2 months of operating expenses in their operating cash bucket. This covers the gap between when you pay for things (like inventory or services) and when customers pay you. If your customers typically pay within 30 days, one month might be sufficient. If you have longer payment cycles or seasonal fluctuations, lean toward two months.

Here’s a practical test: look at your cash flow over the past year and identify your worst cash flow period. Your operating cash should be enough to cover that scenario comfortably.

Related Reading: How Scenario Planning Helps Your Business

Determining Your Strategic Cash Target

Strategic cash is trickier to calculate because it depends on your growth plans and opportunities. Start by identifying your most likely strategic investments over the next 12 months. This might include:

• Marketing campaigns or new customer acquisition initiatives
• Equipment purchases or technology upgrades
• Hiring key employees or expanding your team
• Product development or expanding your service offerings
• Geographic expansion or new market entry

Add up these potential investments and aim to maintain 50-100% of that total in your strategic cash bucket. If you’re in a fast-moving industry with frequent opportunities, lean toward the higher end. If your strategic moves are more planned and predictable, the lower end works fine.

The key insight: strategic cash should feel like “found money” when opportunities arise. If you’re constantly debating whether you can afford a strategic investment, you probably need to build up this bucket.

Setting Your Minimum Reserve Balance

Your reserve cash is your financial safety net, and the calculation is more straightforward. Start with your monthly operating burn rate and multiply by your risk factor:

• Low-risk businesses (steady revenue, diversified customer base, predictable industry): 3-4 months of operating expenses
• Medium-risk businesses (some seasonal variation, moderate customer concentration): 4-6 months of operating expenses
• High-risk businesses (volatile revenue, few large customers, uncertain industry): 6-12 months of operating expenses

Consider your specific risk factors: Do you have a few large customers who could significantly impact revenue if they left? Are you in a seasonal business? Do you operate in a volatile industry? Is your revenue model still unproven? Higher risk factors call for larger reserves.

Putting It All Together

Let’s say your monthly operating expenses are $50,000. A medium-risk business might target:

• Operating Cash: $75,000 (1.5 months)
• Strategic Cash: $100,000 (based on planned investments)
• Reserve Cash: $250,000 (5 months)
• Total Target: $425,000

This might seem like a lot of cash to keep on hand, but remember: this framework prevents you from accidentally spending your safety net on day-to-day operations or using your growth money to cover unexpected expenses.

Start by building your reserve and operating cash first—these provide stability. Once those are solid, focus on accumulating strategic cash that will fuel your next phase of growth. And remember, these are targets to work toward, not requirements you need to meet overnight.

Common Cash Flow Management Issues

Every business faces cash flow challenges, but some patterns show up again and again. Recognizing these common issues can help you spot problems before they become crises:

Cyclical and Seasonal Businesses: If your revenue follows predictable patterns—like a tax preparation service that’s busy in spring or a retail store that relies on holiday sales—you need to plan for the lean months. The mistake many business owners make is spending like every month will be a good month.

Fast Growth: This might sound like a good problem to have, but rapid growth can actually strangle your cash flow. If sales are going well, customers may order even more products, perhaps doing this before they have paid for the first shipment. You end up needing more cash to fulfill increasing orders while waiting for payment on previous sales. Steady, controlled growth may be more beneficial to your cash flow in the long run.

Poor Accounts Receivable Management: When customers consistently pay late or you don’t follow up on overdue invoices, you’re essentially giving them interest-free loans. You can be reporting solid revenue on paper, but unless you have cash in hand, you’re not going to be able to pay your bills.

Poor Accounts Payable Management: On the flip side, paying your bills too early or not taking advantage of payment terms means you’re giving up cash unnecessarily. The goal is to get paid as quickly as possible and retain your cash for as long as you can without damaging your credit or your reputation.

Extending Too Much Credit: Offering generous payment terms to win customers can backfire if you don’t have the cash reserves to support the lag between delivery and payment.

Limited Financial Forecasting: Flying blind is never a good strategy. Without forecasting, you can’t anticipate cash flow problems or identify opportunities to invest in growth.

Manage Cash Flow with a Cash Flow Forecast

A cash flow forecast is your business’s financial GPS. It shows you where you are now, where you’re headed, and helps you navigate around potential roadblocks.

Start with Monthly Forecasting: You need a cash flow forecast that predicts your future cash flow and shows you how much money you’ll have in the bank in the coming months. This forecast helps you figure out if there will be points where you may run low on cash and need additional funding, or when it might be the right time to make strategic investments. A cash flow forecast template can help you determine how those strategic investments will affect your future cash position.

Some businesses may want to even consider a weekly cash flow forecast for more fine-grained visibility and control.

Model Inflows and Outflows: Your forecast should include all the ways money comes into your business (sales, loan proceeds, investment) and all the ways it goes out (expenses, loan payments, equipment purchases). Don’t just focus on sales and basic expenses—include everything that affects your cash position.

Update Regularly with Actual Results: Here’s where most businesses go wrong: they create a forecast and then ignore it. The day you create your cash flow forecast is actually the same day that it goes out of date. While that may sound discouraging, it’s actually by design: Your actual results will never exactly match your predictions—no one has a crystal ball into the future. Reaping the benefits of forecasting requires reviewing and updating your forecast monthly as real numbers come in, to keep it accurate and useful.

The process is simple: replace last month’s predicted numbers with the actual results.. You’ll update your sales forecast, expense budget, the amount of money you received from customers (Accounts Receivable), the amount of money you paid to your vendors (Accounts Payable), and any other transactions that impact your cash.

When you update your past months with actual results, you can recalculate the rest of your forecast to get a more accurate, forward-looking view of your business, giving you an up-to-date view of what’s ahead. You can do this with spreadsheets or consider a product like LivePlan to automate the process.

Additional Tips for Managing Your Cash

Do a Cash Flow Analysis: Just knowing how much cash is in your bank account isn’t nearly as important as understanding the changes to your account. If you’ve been going along for years with 50% of your sales on credit, and suddenly it’s 70% or 30%, that’s a red flag. Monthly reviews help you catch concerning trends early.

Develop Clear AR and AP Policies: Set clear payment terms in writing and stick to them. For accounts receivable, consider using simple language like “please pay within 21 days” instead of “Net 21” terms. Research shows that being polite matters—a simple “please pay your invoice within” or a “thank you for your business” can increase the percentage of invoices paid by more than 5 percent.

For accounts payable, schedule payment of your bills to happen on the day before they are due, but watch for prompt payment discounts that might make early payment worthwhile.

Secure a Line of Credit: Apply for a business line of credit before you need it. Banks are more willing to lend when your business is healthy and you don’t desperately need the money. A line of credit acts as an insurance policy for temporary cash flow shortfalls.

Manage Growth Strategically: Growth is good, but uncontrolled growth can kill your cash flow. Make sure you have the working capital to support increased sales before you ramp up marketing or take on larger orders.

Key Metrics for Cash Flow Management

Track these essential metrics to maintain a healthy cash flow:

Days Sales Outstanding (DSO): How long it takes, on average, to collect payment after a sale. Lower is better.

Cash Conversion Cycle: The time it takes to convert your investments in inventory and accounts receivable back into cash. This shows how efficiently you’re managing working capital.

Operating Cash Flow Ratio: Operating cash flow divided by current liabilities. This measures your ability to pay current debts with cash generated from operations.

Cash Runway: How long your current cash will last at your current burn rate. This is critical for planning and peace of mind.

Managing Cash Flow for Long-Term Growth

Good cash flow management isn’t just about survival—it’s about creating opportunities. When you have a solid handle on your cash flow, you can weather unexpected storms without panic. More importantly, you can make bold strategic moves when opportunities arise because you know exactly what resources you have available.

Without positive cash flow, or real cash flowing into your business regularly, you’re at risk of experiencing crippling cash flow problems. But with effective cash flow management, you create a buffer that absorbs shocks and provides the fuel for strategic growth.

The businesses that thrive aren’t necessarily the ones with the highest profits—they’re the ones that master the art and science of cash flow management. They understand the three jobs of cash, they forecast religiously, and they make decisions based on cash reality, not accounting theory.

Start implementing these cash flow management practices today, and you’ll position your business to grow on your own terms, with confidence and strategic clarity. Your future self will thank you for the financial stability and opportunities that effective cash flow management creates.

Noah Parsons

Before joining Palo Alto Software, Noah Parsons was an early Internet marketing and product expert in the Silicon Valley. He joined Yahoo! in 1996 as one of its first 101 employees and become Producer of the Yahoo! Employment property as part of the Yahoo! Classifieds team before leaving to serve as Director of Production at Epinions.com. He is a graduate of Princeton University. Noah devotes most of his free time to his three young sons. In the winter you'll find him giving them lessons on the ski slopes, and in summer they're usually involved in a variety of outdoor pursuits. Noah is currently the COO at Palo Alto Software, makers of the online business plan app LivePlan.