CASH FLOW MATTERS

“What a great ROI, let’s do it!” - said no sensible entrepreneur ever.

When evaluating a business idea, calculating the Return on Investment (ROI) isn't enough. While ROI indicates potential profitability, it says nothing about cash flow challenges. Different ventures may have identical ROIs and drastically different and unevenly risky cash flow patterns, some perhaps unviable.

What to look for

To properly assess risk, entrepreneurs need to build a cash flow model that projects money coming in and going out, ideally over an initial timeline of 12 to 18 months. From there on, they should calculate at least three vital indicators:

• Cash on Hand: The amount of readily accessible cash. Is it projected to drop low or below zero at any point? This means external financing will be needed.

• Cash Runway: The amount of time the business can survive on its current cash if it suddenly stopped generating revenue. Think of this as a measure of resilience to the unpredictabilities of business.

• Cash Coverage Ratio: The ratio of cash on hand to interest expenses, which indicates the ability to pay off obligations, a metric heavily scrutinized by lenders.