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Cash Flow – Cash Management Part III

Controlling Cash Flow Cash is the money kept in your pocket, your cash register or more frequently these days, your bank account. It is the money that you use to pay your bills, wages, taxes and other expenses when they accrue. How you manage your cash is critical to the success or failure of your business. An enterprise needs cash to keep going, just like a motor vehicle needs petrol to run. It is the life-blood of your business. In April we discussed the difference between Cash Flow and Profit and how a business can be profitable yet still run out of cash. We looked at basic Cash Management. In June went through the six basic steps that create a Cash Flow projection and then produced one ourselves. In this edition of Power Equipment Australasia we will look at how to Control Cash Flow; which is a far better option than having one control you! Controlling Cash Flow Even though interest rates are relatively low at the moment for most small businesses today borrowed cash is an expensive commodity. If most businesses are to survive and prosper, their owners must look at their own business and get their own “house” in order rather than venturing outside for fresh injections of cash. Building up inventories and planning for long-term expansion are the traditional reasons for borrowing. This can appear quite attractive in the current relatively low interest environment. However, all indications are that we must expect interest rates to be rising again soon. What might appear cheap funds today can rapidly render the use they were put to marginal, at best, with just a few short Federal Reserve Bank announcements. When external finance becomes more expensive as small business manager has little choice than to tighten cash flow controls and make the most of the money at hand. Once a realistic (NB “Realistic” means just that) sales projection for the period under review has been drawn up you should then concentrate on the three main areas of cash flow forecasting: Receipts Payments Cash on Hand Cash Receipts Forecasting sales is important to creating a cash budget. Going out and making those sales is also important. Actually collecting that funds generated from those sales is then critical to any cash management program. Every business is subject to outside forces beyond the control of the owner and/or manager. In our industry the classic example is the weather. However much we wish that we could, we cannot make it rain. At other times we have been unable to prevent “The Recession that we had to have” and the major reverses in the value of our local currency, or the impact of low-cost competition. Small firms often find themselves caught between “The Rock” of static or falling incomes and “The Hard Place” of rising business costs. While raising prices is the most obvious answer to this problem, the realities of a competitive market place often preclude it. One thing is for sure: if you do nothing then the only thing that will happen is the slow erosion of profitability and with it the ability to invest in the business and its future. Are there other options for a small business owner/manager to increase cash reserves without recourse to substantial price rises? One of the simplest ways to quicken cash inflows is to accelerate the speed that your customers pay you. Rather than waiting for full payment at a job’s completion or at the purchase of a product, for example it might be better to persuade customers to pay a deposit at the time of placing their order. This is particularly advisable for high-ticket items like ride-on mowers or slow moving spare parts; especially when you are dealing with new customers or ones that have had a poor payment record with you. A discount can be offered to entice prompt payment (eg: 5% net 7-days; 2-1/2% 14-days) and/or a surcharge placed on late payments (eg: 2-1/2% 60-days; 5% 90-days). You may have noticed that many larger companies are now charging penalties for late payment, so you are not alone. Balancing late penalties with early payment discount not only rewards reliable customers but also encourages others to take advantage of the savings available. It might be worth them borrowing funds from a bank to take advantage of them. It may be better that they borrow the money than you do!

All discounts and surcharges should be advertised in advance as applying to all customers Credit Sales Almost every business provides some sort of credit arrangements to at least some of its customers some of the time. It is just impractical not to. It would, for example, be totally unrealistic for a contractor to make sure tat every householder was waiting at home with the appropriate cash in their pocket before maintaining the lawn and garden. It would be equally impractical for a dealer to demand immediate payment from the contractor fo every spare part and consumable item that he might purchase to keep his business running. Credit increases sales and profits: as long as the funds are collected! Thus for most businesses converting credit sales to cash receipts is the biggest area of Cash receipt control. Each business owner/manager must weight the benefits against the costs to determine whether selling on credit is justified. The advantages are: It attracts new customers It increases the volume and regularity of existing customer purchases. Credit Customer records can be used for sales promotional purposes such as direct mail advertising (subject to compliance with the new database laws) The disadvantages are: It ties up valuable cash reserves in “Accounts receivable” Additional internal sales costs (eg bookkeeping; distribution of invoices/accounts) Late payments further tie up cash Bad Debts. It can take a long time to recoup the loss from just a single bad debt (remember, it comes straight off your bottom line, so you must make that much profit not simply that amount of sales to recoup the funds lost). Many business today have eliminated most small account problems by using the Credit Card systems. BankCard, MasterCard, Visa, American Express, Diner Club are the most well-known. Of course, they charge a fee for this service. These fess can vary wildly from financial institution to institution and from business to business (depending on its turnover). Some industry groups and associations have negotiated preferential transaction charges for their members. For some groups these savings, compared with what the individual member might be able to negotiate on their own, are so great that it more than pays for the cost of membership. Accepting Credit Card transactions eliminates the problem of bad debts. It means that the businesses can gain almost immediate access to the funds generated from their sales (minus the transaction charges) without negating most of the advantages of “credit” sales. Many businesses still prefer to run their own credit systems for regular customers. It eliminates the losses that can quickly erode profitability from the banks’ fees (especially since the ACCC deregulated the sector last year. In tis instance owner/managers must address two important things: Credit Extension Collection Procedures Credit Extension includes things like selecting who to provide credit to, ensuring their ability to pay, and the amount of credit that your business is prepared to provide. Collection procedures cover the payment terms, any interest/incentives and procedures should the customer not adhere these. Funds trapped in a credit account must be converted into cash. Sometimes the inherent risk involved with maintaining credit accounts can be reduced through a credit insurance policy. However, as with other credit costs and fees this will erode their profitability.

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