Is Your Business Always Short of Cash
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Iím always surprised that many small businesses donít seem to
see much connection between profit and cash management.
Many see profit as something
their accountant tells them about six months after their year end, once
theyíve done some mysterious adjustments to the paperwork which was
sent over. Profit is something which they try to get as low as possible
so they donít have to pay so much tax (although interestingly a new HMRC scheme will allow very
small businesses to do their accounts on a purely cash basis). But cash
is something they need each day to pay their staff or buy more
materials. OK so they know the two are connected somehow but theyíre
not sure how they never seem to have any spare cash when they made a
profit of £50k last year.
Weíll despite appearances profit and positive cash flow, and
loss and negative cash flow, are the same things; just separated by
time. So itís important when reviewing your cash position and
forecasting for the future that this is fully understood, and itís
particularly important if you are having continuing issues with cash
If youíve got cash flow problems the first thing you might do
is delay paying suppliers, try to collect debts quicker or ask the bank
for a loan or an overdraft. Many cash shortages are short term and
these responses are perfectly sensible in order to get past that
period. For example a large contract may mean more stock being bought,
or your business may be cyclical; farmers often run a huge overdraft
which is paid off when crops are sold.
However if cash management is continually a concern or has
become more and more so, then the issue is likely to be more long term
and no amount of delayed payments or faster collections are going to
keep things in control for ever. There are probably two main reasons
for a continuing or worsening cash problem.
Firstly, and ironically, is that your business is growing
quite quickly and profits are increasing rapidly; yes increasing.
In many businesses increased sales will mean increased stock purchases
and more staff costs and overtime, perhaps months before those sales
are completed and paid for. In these circumstances it may be possible
to get customers to pay for part of the order in advance but if not you
should seek to finance this ďworking capitalĒ using your bank or
another lender. If your business is doing well and you can clearly
demonstrate the reason for the cash requirement you should be able to
get such a facility.
The second and perhaps more common reason for cash flow
difficulties is more insidious. If the business is running at a fairly
steady pace but cash is always a problem or getting more scare, itís
likely to mean that the business has a fundamentally low or non
existent underlying profit level, whatever your accountant may have
told you a year ago. If this is the case there are two possible issues.
Either your overheads are too high, or your gross margins are too low.
Review your overheads closely to see if any changes can be
made. The basis and detail of this review would make the subject for a
whole article on itís own but key areas are normally property or people
driven. Can you make your existing property cheaper to run, or find a
less costly unit? Do you need all the personnel you have. Can you make
some of your headcount part time or use contractors. Are you sure
youíre getting the best possible prices for any major overhead
expenditures such as power.
If your overheads are under control but underlying profits are
weak then this inevitably points the finger at your gross margins and
implies that youíre not charging enough for what you sell based on your
current direct AND overhead costs. Firstly examine your direct costs
closely. Could you get better prices elsewhere? Could you do things
cheaper in house or by outsourcing? Are your business processes as
efficient as they should be? If youíre really comfortable with all
these then itís time to turn your attention to your pricing.
Good pricing is perhaps more of an art than a science. Most
businesses will use a combination of cost plus and market rate to
arrive at the price they think is correct. If youíre not making enough
profit that implies that youíre not adding enough ďplusĒ to your cost.
Donít forget that you have to cover your overhead costs as well as your
direct costs in order to make an overall profit.
Look again at market pricing and make sure youíre not
underselling your self. Youíll never be the cheapest so donít always
aim to be. Are you offering something more or better than your
competition? If so make sure your pricing allows for that. Why do
people buy from you? If itís quality or service you should be able to
price in a reasonable surcharge for that.
Having looked at overall pricing policy you should turn your
attention to the profitability of individual customers. Weíve covered
this in more detail in our article Is
Your Next Deal Worth the Effort? but in short you need to
look at the profit being made by each customer, or each category of
customers. This neednít be as big a task as it sounds and you might
quickly find that some of your best customers are actually making very
little or no money once you take into account, sales, handling,
collection and delivery costs.
If that proves to be the case then look at what youíre
offering them. Could the competition really do such a good job consistently
at the low prices youíre charging? If you have some really unprofitable
customers you may actually be better off without them, although you
should ensure they donít bring ancillary benefits such as brand
association kudos. I can remember more than once in past companies when
losing one of our ďmajorĒ customers was one of the best things we ever
So in summary donít assume that cash management is all about
reducing stock and debtors. Yes you should certainly do that, but if
you continue to struggle itís a clear sign of poor profitability
somewhere in the business.
About the Author
John Norton, is a senior business and
finance professional with a big four, blue chip, software and
technology background, and board level leadership experience in
finance, IT, operations, customer service and general management.
He is owner of No Worry Web, which creates and manages small
business web sites and social media presence, for an all-inclusive
monthly fee. For further details see www.noworryweb.co.uk
or call 0845 5191 275. Authors Google+
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Article Published/Sorted/Amended on Scopulus 2013-09-19 09:05:15 in Business Articles