The cashflow funnel illustrates this reality. Profit sits at the top, but before it becomes cash, it flows through several layers. Working capital absorbs cash as you fund inventory and customer credit. Capital expenditure, debt servicing, equity distributions, and tax obligations all consume cash before it reaches the bottom.

The businesses that maintain the strongest foundation understand their cash conversion cycle and know precisely how long it takes for a dollar invested to return as cash. This creates operational stability and capacity for growth.

How Cashflow Impacts Business Valuation

Potential acquirers write two cheques. The first is for the business itself. The second funds the working capital required to operate the business. The more cash a business needs on day one, the less an acquirer can pay for it.

Consider two businesses, both generating $2 million annually with similar margins. The first collects payment within 14 days whilst paying suppliers on 30-day terms. The second extends 60-day terms to customers whilst paying suppliers within 14 days. Both show the same profitability, but their cashflow positions are vastly different.

The first has a positive cash conversion cycle and requires minimal working capital. The second constantly funds customer purchases from its own reserves. From a valuation perspective, the business with positive cashflow demonstrates financial efficiency and provides the new owner with operational flexibility from day one.

Improving Your Cash Conversion Cycle

The fundamental principle is straightforward: collect cash before you need to spend it. From an enterprise value perspective this business will have a higher goodwill value.

Some businesses achieve this naturally. Subscription models that collect payment upfront create strong cashflow positions. Retailers (eg. Amazon) who take immediate payment but negotiate extended supplier terms operate with minimal working capital.

For many established businesses, improvement involves rethinking payment terms. Consider offering modest early payment discounts, requiring deposits on larger orders, or moving towards milestone-based payments that align cash inflow with work completion. Professional services firms might offer annual retainers rather than monthly billing. Manufacturers might negotiate progress payments tied to production milestones.

Four Ways To Strengthen Cashflow

Several approaches typically yield results for established business owners:

1. Understand your cash conversion cycle. How long from when you commit cash until it returns? This identifies where cash is tied up.
2. Implement rigorous accounts receivable management with clear payment terms and systematic follow-up.
3. Review inventory management. Many businesses hold more stock than necessary, tying up working capital.
4. Examine supplier payment cycles. Ensure your terms are competitive with industry standards whilst maintaining strong relationships.

Strong cash flow management deserves to be central to your business strategy. Whether planning succession in the next five years or building for longer-term growth, businesses that command premium valuations demonstrate consistent positive cash flow alongside profitability.

If you would like to discuss how your business might improve its cash flow position or understand how this connects to business value, I would be pleased to explore this with you.