One of the greatest daily struggles of a small business owner is having to walk the fine line between paying the bills and investing in future growth. Many times, business owners look at their sales charts and see profit going up, but they don’t see their cash flow situation getting any better. They are making more money, but still not having any more to spend!
So how does that happen? Well, what we have is a problem not necessarily with overspending, but with cash flow management.
Episode 5 transcript is available to download below…
SAM: Hi! This is Sam Polimeni and this is Sam’s Soapbox. Today, I want to talk to you about growth and understanding that growth costs money. Of course growth costs money. A lot of small business owners look at their financial statements and say, “Sam, I made a profit! But where’s the cash?”
The key thing to understand in small business is that profit and cash most of the time don’t correlate. What you find, is if your business is growing rapidly and it’s growing faster then what happens is that you need more and more working capital, which means you need more and more cash to fund the growth of your business.
During one of my workshops I exemplify a graph that shows an increase in sales & profit but a decrease in cash balance. You’ve got to understand cash flow, cash flow is vital. One of the best tools that we use to help our clients get over this hurdle is to develop what we call a three-way cash flow forecast. And a three-way cash flow forecast basically identifies the relationship between profit cash and sales and then shows to us what kind of levels of overdraft we need. Once we’ve got this model in place, we can then start using it for a little bit of what we call financial modeling. Just to give you an example, one of our clients (a wholesale business), doubled their business over a year period.
Most wholesale basically works a fairly long cycle. Their goods can take anywhere between 2-3 months to come from overseas, so they’re usually paying some kind of deposit and they usually have to pay for their goods before they land, and then what ends up happening, is those goods end up in stock. They then stay in stock for anywhere between 30, 60, 90 or 120 days. So what tends to happen, when you’ve got an importing/wholesaling business, you could basically be funding up to 6 months worth of working capital. So if you want to go double your business, you’ve also got to double your working capital.
We developed a three-way cash flow and worked out that we needed to increase their overdraft from $250,000 to $500,000.
At the time, they knew they weren’t going to be able to get this from the bank so we had to come up with a few different strategies on how to grow their business and how to fund the growth. We looked at a couple of different things, we talked about potentially re-negotiating with suppliers, we talked about a few different strategies in terms of improving our efficiencies in terms of how quickly we collect our money, and we talked about potentially putting some low value customers on a COD basis. That means we’ve got our cash earlier. We talked about a whole range of different strategies. We basically worked at all these different strategies and, at the end of the year, we ended up getting less into overdraft than what we did the year before!
We didn’t get anywhere near the $250,000 overdraft limit, yet we had doubled our sales by implementing those strategies. We actually created a positive cash flow in the business as a result of doing that. The key is to always look to identify what the cause of your cash flow problem is, and then come up with some strategies on how you can improve that cash flow in your business. Don’t look for the quick fix. Don’t just go and borrow more money because 9 times out of 10, borrowing more money might be a quick fix in your business but it won’t be the best fix and it could be the cause of grief later on.
So understand growth costs money, understand your cash flow, and understand that the best way to fix your cash flow problems is to look at your rules and your processes. By developing better rules and better processes in your business, you will be able to really maximize your cash flow. So this is Sam, I look forward to talking to you again next week! Bye!
OUTRO: That was another episode of Sam’s Soapbox. If you’d like Sam grow your business into a multi-million dollar company that’s far less reliant on you, then call in (03) 9355-0500 or visit www.sampolimeni.com or www.spsol.com.au