Cash is the blood of a business. Losing cash is like bleeding from a cut – too much blood loss means loss of life – not enough cash means business death. Businesses gets cash from various sources revenue, debt, or investment capital. This article addresses managing your financial modeling and process improvement that can impact cash flow. Knowing how to keep more cash when times are tight and how to manage excess cash when things are good are critical to the long-term financial health of a business. Cash flow management puts a focus on the future success of the business.
Quick fact: the modern cash flow statement did not actually become required until 1987 when FASB issued Statement No. 95 formally replacing the more general changes in financial position with the more specific statement of cash flows.
The ability to weather a storm is paramount to long-term success. Just like in your personal life, setting aside excess cash will help to create a buffer should you experience challenges. Every business focuses on growth – but do not solely focus on growth. If you forget about the concept of retained earnings, you are quite likely to end up in trouble when the business hits a rough patch.
Start with understanding exactly how much of a cushion you will need to wait out a storm – at its worst with no revenue – for between 3-12 months. Start building to this amount. This is incredibly important if your business has seasonality to it. Your cash reserve needs to reflect that seasonality – as does your cost structure, but more on that later – and the size of reserve should reflect the seasonality of the business.
Account receivables forecasting is an effective way to get better at collecting on invoices that are due. Financial forecasting of topline revenue – account receivable and collections – with an emphasis on seasonality is important. For example, some businesses generate most of their revenue during only certain parts of the year.
If you can predict and forecast the aging of your receivables and establish triggers when payments are outside normal history – you can start mediating the process earlier. As the model indicates a possible write off, you are better off collecting less than 100%. When an account does go into collections, do not be quick to write it off. There are numerous third-party resources that will work to get the money owed. If you are willing to write it off, why not collect 50 or 70 cents on the dollar instead.
Do not stop just with revenue. Forecast your expenses as well. Your terms with vendors will vary from 30-120 for payments due, but too often companies pay invoices when submitted. The larger the bill, the better it is to wait. Why pay millions of dollars early when you could be giving up extra income on that cash. Know when your payments are due and pay them on-time but not before. Smaller firms may not be sitting on such amounts, but the concept is the same, do not pay early. Use the terms of your vendors to your advantage.
There are a few ways to help manage accounts payable and better manage your cash outflow. Focus on project-based financing for new or special projects. Branding and marketing are common cost centers that benefits from this approach. There is an expectation that the efforts will generate a return – but not until later. Some expense will have to be borne up front, but eventually new revenue should cover the extra cost. Negotiate the contracts with your vendors to match the outflow of your costs with the timing of the expected return. It can be difficult to determine the return on such investments. Outside advisors, like Eventus, can help do this, and make it cheaper to make the decision.
Speaking of contracts, most companies have payables tied to ongoing contracts for services or software and other vendors. Sometimes these third-party arrangements can get out of hand as they often renew automatically. Calendar the renewals so you know when renewals are coming due and take the opportunity to review. Do you still need the service? Can we renegotiate? If you plan, you will be less likely to end up renewing at the last minute because you are just not sure. Create a plan “B.” Even if you still need the service, it could provide you negotiating leverage.
Not everyone at your company is a financial wizard, but everyone should understand how your company makes money and a few key metrics. Too often employees – even top management – confound revenue growth with profit growth. Educating the team about the way finance works, that a better quarter does not always mean we need to replace the printer or buy new office furniture.
Cash flow is money left over after you spend – so increase revenue or decrease spend – or both. Proactively push the team to think differently about expenses. How much cost is duplicative? Can an internal team do as well or as better than a third party? Or is outsourcing more effective? Within the data of any company there is enough information to yield insight and pull a level to improve the topline or have less spend hit the bottom line.
Size may differ in terms of cash flow at a big company versus a small one. Since often employees have varied backgrounds, communicate in terms of percentage. Percentages makes performance comparisons an apples-to-apples exercise. Your team will start to realize that not everything falls to the bottom line – if you recorded a 12 percent revenue growth but only a 2 percent profit growth, where did that 10 percent go? Revenue of $1.2 million may seem like a lot, but if management was expecting 10 percent growth and only achieved 2 percent, $1.2 million (or $1.2 billion for that matter) will be disappointing. Percentages take the relative size of the numbers out of the equation.
Finance professionals do not think about today because today is not actionable. You cannot fix a problem overnight; you must look into the future. Therefore, finance will make 1-3-5-year projections. These forecasts are exercises designed to highlight the risks and opportunities in the business model and provide the time to change to deliver on the forecasts. It really becomes about probabilities. How likely is a scenario going to happen? Cashflow management is about narrowing the confidence interval – being less wrong – between forecast and actual. By keeping the interval tight you are reducing the risks associated with being wrong.
Every company needs better cashflow management. But not every firm has the same resources. Managing those resources is one area where Eventus can help. From helping you get your operational processes in place to providing outsourced closing support to data analysis and planning, the experts at Eventus have done all this and more for clients of numerous industries and have worked for and led finance and accounting teams for firms large and small, private, and public.
