Question

When small businesses fail, poor cash flow is usually the culprit. The company needs to keep operating even while waiting for revenues from sales that it has already completed (i.e., accounts receivable). Why does this cash crunch worsen, rather than soften, when sales grow?

Answer 1

Smaller companies have a smaller financial capability when compared to a larger amount. When the sales increases in such companies then cash crunch gets worse and the reason behind this statement is that the owner of smaller business gives money their vendors or suppliers for purchasing raw materials. Raw materials are used for production. So when the sales increases, product manufacturing increases and hence the smaller business tends to buy more raw material from the vendor or the suppliers. So the small business pays money to the suppliers and cash crunch occurs. The other reason for the cash crunch is that due to credit arrangement the small business gives credit to the other businesses and when money does not come back or come a little late then cash crunch happens. So the obvious and simple reason for such cash crunch when the sale increases are that the small business has to pay their suppliers for raw materials and advance credit sales. Because the retailers who buy from smaller businesses purchase the product at credit. Generally, the credit days go from 4 days to 30 days. The credit time may go in years as well depending upon the business vendor relationship