Sage One: Cash is King

Posted: 11th May 2015

Sage One

Whilst all small business owners have probably been asked to prepare a cash flow at some time in the course of their business, actively continuing to manage cash and working capital on an ongoing basis can get forgotten about, especially in times of slowdown, in the pursuit of new sales and the belief that everyone will be happy as long as the accounts show a profit at the end of the year.

It’s important to remember that whilst both are important measures to business owners, investors and trading partners alike, cash and profitability are not the same thing.

Profit is usually seen as an accounting measure, highlighted in the accounts as a snapshot at the end of some period of time, to show the health of the business, that it is fundamentally able to sustain itself, and hopefully, to show a better result when compared year on year.  It does not however show when the revenue from the sales you have made will be realised, when the money actually gets into your hands and whether that will be before or after you have to pay for the new delivery van or this week’s direct debits.   Cash is much more immediate and cashflow forecasting and working capital management help ensure that there are enough funds to meet obligationstoday, to pay wages and suppliers and continue trading.

Shortfalls in cash available to small businesses often lead to the failure of those enterprises, even where the underlying profitability is sound.

Planning the management of cash is not a trivial exercise and should be viewed as a key management activity for small businesses. As a planning tool, you should expect to be questioned on anticipated cashflows whenever you go for a bank loan. Particularly in these times where credit is restricted, banks will only lend when they can see that there is a history that the business is in control of both its short and long term financial health.

Suppliers too may be more wary than in the good times of lending to someone who may fail owing them money or supplies they can’t recover. You might find that payment terms, credit limits and even whether they are prepared to do business with you will all be favourably influenced by evidence that you understand how your business operations are funded.

Cashflow forecasts and working capital management

There are a number of measures you can take to actively manage your cash position and the mix of working capital – debtors, stock and creditors that make up your day to day trading –  to help stretch the gap between receipts and payments in your favour and maximise the cash available to you.

The first is based on “do unto others…” Credit check potential customers to make sure they are likely to be in a position to pay you, if they will be significant customers for you, ask to see their cash flow forecasts. Other people are asking you, so why not ask them? In fact if your customers will be relying on you for keyman supplies, they may want to see your cashflows, to make sure their supply will be uninterrupted before they use you.

Also look to set payment terms you are comfortable with, given your knowledge of your industry, the customer, and the value of their business too you.

Once you have set payment terms, implement them and chase debts. If the customer has signed up to terms of 30 days, remind them that its day 28 now and confirm that you will feature in their next payment run. If you do this regularly they will view this as business as usual, rather than a sign of desperation.

If that fails to have an impact on receiving payments promptly, consider debt factoring services. For a percentage outlay, you can receive the remaining balance of the amounts outstanding. Leave the debt chasing to the rotweilers who do this for a living, while you get on with what you do best. And if you can show evidence of a robust credit control process, agencies become more confident that late payments are likely to be delays rather than full-on payment defaults and may be willing to take on the debt collection for a lower percentage.

Debt factoring also has the advantage that you are not the one on the phone arguing for payment, so if the business relationship with the customer can continue, it can do so in an un-soured atmosphere.

Finally you can look to review customer risk constantly. Just because a business has been able to pay in the past doesn’t mean they will continue to be able to pay going forward. So if payments have slowed or activity with a customer changes it may be worth while thinking whether they should continue on the same terms or with the same credit limits. A phone call could be all that it takes to reassure you. Knowing your customers and building good working relationships can prove fruitful in growing the business anyway but is particularly useful in this context, if it protects your current exposure. In the worst case scenario, if you are close to a struggling customer, they may just want to pay you ahead of other suppliers.

As far as managing your payments goes, make use of what you have been given. If a supplier offers 30 days payment terms, use the days. Don’t feel you have to pay everything the day the invoice comes in but do make sure your planning supports that you will be able to pay and avoid souring the relationship or incurring extra costs.

Build relationships with suppliers and call them to extend your credit terms. Chances are that once they have done business with you for a while they will be able to re-assess your credit history and may offer better terms themselves anyway, but what’s the harm in asking?

You can also consider more actively managing your stock levels. Buying less but more often could mean that you are able to more closely match purchases with sales in at least some areas of your business. Whilst a “just in time” approach may in some instances lead to unacceptable stock shortages or additional purchase or delivery costs, it may be worth considering.

Some payments may be immovable though and every effort should be made to ensure these are met. Missing paying HMRC can lead to automatic interest and/or penalties, whilst missing finance lease payments could jeopardise the infrastructure of your business.

In short paying close attention to the detail of everyday business should put you in a better place to steer day to day operations successfully.

Economic slowdown creates opportunities as well as threats and its good to be able to capitalise on the opportunities if you are fortunate enough to be in the position to do so. The challenge for the UK economy as a whole is to grow out of recession and this true at the level of the individual business making up that economy. However with growth will come new risks and challenges to manage; – additional finance requirements to go to the next level, more staff, new customers you don’t know, new markets where you are less experienced. Again planning cashflow will help frame those risks to help you identify any short term deficits as you step up.

Love your bank

You are not alone in this though, banks a major source of funding for a large number of businesses and they have an ongoing vested interest in seeing you prosper. They’ll want to know you can meet day to day needs to protect their investment in you, so continue to build good relationships and share your updated cashflows regularly with them, as you had to do when you got the original loan. Being open and honest about the good and the bad forecasts will mean they are more able to trust you and your judgement should you need to review or extend facilities at any time. The worst thing from their position is to find out about problems late, when options for them are reduced and they feel you have not been as up front about problems as you could have been.

Save a bit of love for your accountant too. As an independent source of advice, they can be invaluable in helping build cash flow models to best practice and in instilling rigour in helping you establish your working capital management metrics. This is their bread and butter and they might just have that extra understanding of local conditions or of your industry. One of the keys to success is to embed the process in your business as quickly as possible and with repeated experience of looking at such requirements, your accountant is well placed to help make cash management a success for you and the users of your cash and working capital management outputs.

However you choose to do it, you ignore cash management at your peril. To succeed, be robust and process driven, seek help where you can get it, tell everyone how your interaction with them helps what you are doing  and ensure that you control your cash and that it doesn’t control you.

Wrote by: Andy Laver, Product Manager for Sage Taxation