Posts Tagged ‘cash flow’

Managing Your Cash Flow Part 2

Saturday, July 11th, 2009

In Part 1 I talked about the Cash Flow Cycle and how it is the fuel that runs your business. It’s one of the most difficult things to get your arms around and next to marketing is the biggest challenge that faces most small business owners.

With a basic understanding of the cash cycle, we can now move on to some of the things you can do to maximize your cash flow. One word of caution, and it is a BIG WORD OF CAUTION. There is a huge difference between cash flow and profit. It is entirely possible to be extremely profitable and have absolutely no cash. It is also entirely possible to have excess cash and be losing money. My goal with this article is to get you to understand and RESPECT the difference.

With many small businesses, especially ones that are growing quickly, the cash flow gets out of whack very easily. The problem comes when you don’t collect from your customers when you deliver the job. You convert your available working capital into Work In Process Inventory and then into Accounts Receiveable (or as I like to call them Accounts Deceiveable - money I’m owed but can’t collect!)

It’s also common for new businesses and small businesses to be running on empty. They simply don’t have enough invested capital to keep the company going. They’ve saved, begged, and borrowed every last nickel they can to run their company and it still isn’t enough. So before I get into the specific things you can do to improve your cash flow, let me say this.

Invest a few hundred dollars in a meeting with a good CPA (certified public accountant.) Not a bookkeeper, but a CPA. These are the guys that will help you determine exactly how much money you have, how much you will need, and how much business you can do based on this amount. They will also explain to you the MISSING financial statement that almost no one gets. Your bookkeeper will give you an Income Statement and Balance Sheet, but they rarely give you the third one, and it is absolutely essential for your future.

The missing statement goes by several different names. It can be called Sources and Uses Statement, Funds Statement, or Statement of Changes in Financial Position. I like the first one best because it tells you what it does. It tells you where you got your money, where it is (inventory, accounts receivable,) and how you used it/spent it. Really very simple, yet it is crucial information, as we shall soon see.

The trick to managing your cash flow is to have more money coming in than is going out. Sounds totally obvious and straight forward, yet we all know the equation usually works in the opposite way most of the time. We spend more than we take in and we’re constantly looking for more. When we look for more, we are looking for Sources. This is the first place to concentrate our efforts.

There are actually many sources but they fall into two categories. The first is money that’s given to us or money we contribute to the business. This is “equity” or “capital” and means what we own. Equity comes from our savings and reinvested profits (assuming you have profits.) The more profitable we are, and if we can collect the earned profits (remember accounts receivable?) the less we need to borrow.

The second source of funds is borrowing. We call this credit, credit cards, credit line, business line of credit, business loan, supplier credit, or any other form of loan that needs to be repaid to the lender. This can be private (as in a relative, rich uncle, your dad, etc.) Or it can come from your suppliers or your bank.

A word of caution about banks and a disclaimer. This is my personal opinion based on many years of experience. Banks are the scariest, as we have all seen during this last year. If we borrow and can’t pay back according to plan, for whatever reason, they will do very bad things to get their money back. All banks aren’t bad, but the major national ones are heartless institutions and you are just food for their machine. If you can deal with a local business bank, where you can actually meet and talk with the bank president, you are so much better off.

So, enough for today. So far we have determined you need a CPA who will help you determine exactly how much money (capital) you need to run your business at the level you desire. Secondly, we’ve discovered the missing piece of the financial puzzle, the Sources and Uses Statement so we can see where our capital is coming from and where it is going. Finally, we’re set to explore all of the potential Sources and Uses so we can eek every possible drop out of our cash flow cycle.

In Part 3, we will do exactly that, go for the Sources. I promise to not make you wait for the third part. It will be published tomorrow.

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Managing Your Cash Cycle for Maximum Potential Part 1

Monday, May 18th, 2009

Growth requires fuel. That fuel is cash, credit, or capital. Besides having enough customers, the need for cash is the single biggest obstacle a growing company has. Very few companies are capitalized at the level necessary to adequately fuel their growth. Consequently, they’re busy, but haven’t got the cash in their bank account to pay their bills and buy more goods. The first step toward managing your cash flow is to understand the Cash Cycle.

The Cash Cycle starts with cash in the bank. You buy raw materials and pay your workers as you create the final product. You convert your available cash to Work In Progress (WIP) or Inventory in this part of the cycle. This can last for a few hours or much longer depending on how much work you have, how you buy your goods, and how long the goods are in the production process.

When you’re done printing the job, your WIP or Inventory is converted to Accounts Receivable. If you collect right away, this isn’t a big problem. But if you have to wait for your money (eg Net 30 days or longer,) you’re in for a big challenge. Not only are your funds tied up in the job, but so are your margin dollars or profit. Your main objective is to get your original capital back, along with your earned margin, as quickly as possible.

The smaller your margin, the more important this becomes. Your margin (the amount above the material and manufacturing costs,) determines how you pay your bills, your credit rating with suppliers, and how much money you have left over to pay yourself, buy more goods, and grow your business.

This cash cycle is the engine that drives the company. When your margins are too low, you’re effectively spinning your wheels and going nowhere, even if you have a perfectly tuned cash cycle. If it takes you a long time to collect your Accounts Receivable, you can starve yourself right out of business. It’s far easier to over produce than it is to manage your cash flow. Yet, effective cash flow management is what allows you to produce at maximum capability.

The Cash Cycle is a series of conversions. You convert available cash to WIP, you finish the job, add your margin, and convert to Accounts Receivable. Finally, when you collect from your client you get your original capital back plus the margin you’ve earned for your services. The greater your margin, and the faster you turn the cycle, the greater your cash flow and profit.

In our next installment, I’ll be outlining all the ways you can increase the cash flow cycle to take the pressure off. Done properly, you should have a positive cash flow, meaning there’s more money left over after all the obligations have been met. What’s left over determines how fast we can grow and how much we can produce during any given time period.

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Signs of economic recovery?

Friday, May 1st, 2009

I was talking with one of the equipment financing companies last week. I was asking them how their collections were and if they were seeing any kind of an up tick. They said it depended on where you were (upper midwest is a disaster). She said the older companies that were not too leveraged were beginning to show signs of recovery, but everyone else is pretty much where they were.

Even if the economy is starting to show some faint signs of recovery there’s something else to be aware of. More new business does not necessarily mean you are headed out of the woods. The problem is that it takes money to make money. You need capital to fund new business. Simply put, you need to buy raw materials to convert to orders, and you need to be able to carry accounts receivable (AR) until you get paid. You need to collect your AR before you see any increase in your available funds to pay your bills.

When you fall behind due to slow business, you use up your available working capital. When it comes time to fund new business you have only three choices. The first is to get enough money from your customers as a deposit to pay for the goods you need. The second is to get your suppliers (vendor finance) or bank (line of credit) to advance you goods or credit. The third is to put more capital into your business, either from your savings or from additional investment.

All of these are getting harder and harder to accomplish. Oddly, the easiest one we’ve found is to get our customers to front the deposit. In the past they have been reluctant, but with all the news of tight capital markets, most are aware of just how hard it is to get credit for small business. Consequently, they’ve been much more willing to pony up the deposit. Play up the tightness of the markets and this will help you as well.

The second part of the cash cycle equation is getting paid on the back end. Once you deliver the job, you really can’t wait to convert accounts receivables to cash. If you aren’t taking credit cards, do it now. Many companies use commercial credit cards to build airline reward miles. This is a benefit to them and you. You give a few points on the front end to have your cash available pretty much immediately.

If you allow your customers to go 10, 15, 20, or 30 days before paying, you will simply run out of money trying to finance your own recovery. This is one of the most common situations for companies that close their doors. They are litereally busy up to the day the shut down. Being busy is only one part of your success. Cash liquidity or your access to available cash is critical to your on going success.

I think we’re going to seek A LOT of business failures this summer, especially if business begins to pick up. All these companies who are stretched thin and behind now are going to run out of cash trying to finance recover

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