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Posts Tagged ‘cash flow’
Financial Projections Are Crucial to Goal Setting
Projections can help CEOs chart a course from zero sales at the start of the year to the sales objective desired by year’s end
Years ago, I sat down with a new client, and we chatted for hours. The topic: Whether I could help him determine if he would have sufficient inflow of cash to double his company sales from $4 to $8 million in the coming year.
It turned out he had a good command of his product line and product margins. On that basis, I told him we could work together to produce a set of monthly projections designed to determine if he would experience a cash shortfall.
Together, we determined there would be a shortfall. As a result, he approached his bank to increase his credit line. His company ended up doubling its sales. I helped him again the next year. Sales doubled again. I then constructed a model to help his people perform projections, and they took over in year three.
The point of the story is that the client would not have doubled his sales in two consecutive years had he not benefited from financial projections that told him he’d experience a cash shortfall, and would need to extend his credit line.
Therein lies the benefit of projections. If CEOs follow them, the projections force them to focus on the numbers. The ritual of establishing projections helps set a starting point and an end point, or goal. The projections lay out a course for the company to go from zero sales on day one to the desired year-end sales goal.
Projections are also helpful as a scoreboard with which to compare actual results. As you move through the year, you always want to compare how well your company is doing with what you projected it would do. This gives you an opportunity to adjust your actions to achieve your desired results.
Finally, projections enable CEOs to flesh out action plans for marketing and sales teams. Unless you have a methodology or program that says, “This is what we’re going to do to achieve these sales numbers,” it’s not going to happen.
Marketing and salespeople benefit from action plans that flow from the projections. What’s more, those action plans can be broken down by month, week or day to give key employees a blueprint for action. By monitoring those plans, a CEO can determine whether or not employees are getting results.
Next time around, I’ll lay out best practices in developing realistic projections, to help keep companies focused on the numbers.
Back to Basics – Understanding the Cash Flow Statement – Week 3
To reiterate, there are four main types of financial statements: the balance sheet, the income statement, the cash flow statement, and the statement of shareholder’s equity. Balance sheets were our first topic of discussion this month; last week we covered income statements; now it’s on to cash flow statements.
There is a difference between profit — what your company actually makes — and cash. Profit is the overall money your company earned for a given time period, which, as we discussed in our last blog, is what the income statement tracks. Cash is the money you actually have immediately available to you, which is what the cash flow statement tracks. It records the inflow (money coming in) and outflow (money going out, e.g., expenses, purchasing, etc.) of cash in your business and how it’s being used. The SEC states, “A cash flow statement shows changes over time rather than absolute dollar amounts at a point in time. It uses and reorders the information from a company’s balance sheet and income statement.”
Now you may be asking yourself why is it useful to have a cash flow statement, or why to bother going over it. For you and your investors, it’s the most informative financial statement there is–for the simple reason that having one of these allows you to pinpoint exactly from whence your cash surplus, or deficit, is coming, giving you the immediate opportunity to adjust your business as necessary. Or, as financial writer Reem Heakal succinctly put it: it tells you how your company’s cash flow is performing, where your money is coming from, and how it’s being spent. You should review this statement carefully. If you don’t understand what’s going on, pose questions to one who knows.
Generally, there are three different types of activities that cash is involved in and tracked: operating activities, investing activities, and financing activities. Reviews of these show an increase or decrease of your cash over a set period of time. Below is a very, very basic outline of what each of these terms refers to:
Operating Activities
This is the most important of the three activities, documenting where your money goes in the operations of the business. This is where you can follow what happens to your profits as changes occur in accounts receivable, inventory and accounts payable.
Follow these two rules to find the cash:
- An increase in any asset other than cash has a negative impact on cash and a decrease in any asset other than cash has a positive impact on cash.
- An increase in any liability has a positive impact on cash and a decrease in any liability has a negative impact on cash.
Investing Activities
Investment activities is as it sounds, monitoring the purchase and sale of permanent assets in your business. The same two rules above also apply to investing activities.
Financing Activities
Financing activities show the changes to cash flow by owner decisions, such as borrowing money, equity capital transactions and dividends paid out to owners. The same two rules above also apply to financing activities.
For more information, check out the SEC’s brochure on A Beginner’s Guide to Financial Statements: http://www.sec.gov/investor/pubs/begfinstmtguide.htm
Understanding these three activities together gives you a strong hold over the running of your business, and in combination with your balance sheets and income statements, begin to give you an advantage in whatever field your business exists by illustrating where you have the opportunities to strengthen, contract, or grow your business to your best advantage. Don’t underestimate the power of your financial statements; understanding them fully will give you the tools to give your business its best shot for success.
How about you? Has your cash flow statement revealed opportunities to you that you might otherwise have missed? Opportunities to grow, or to improve cash flow?
Preparing for Entrepreneurship – Establishing Operating Capital for Business Longevity – Week 5
Does everybody wish on occasion that they had a guardian angel? Someone who is looking out for your best interest and can provide assistance when needed? As a business owner, you may need this assistance at various times, because of the unpredictability of entrepreneurship. Enter the angel investor…
Week 5: Angel Investors
Angel investors, also known as business angels or informal investors, are people who provide financial backing for small business startups and entrepreneurs. Recently, they have begun to organize themselves into groups known as angel groups or angel networks, in the interest of sharing research and information. They differ from other types of lending resources in that they generally invest using their own funds. They tend to be less personal than peer-to-peer lending, more professional than having family or friends providing seed money, and more intimate than banks or other financial institutions.
Investopedia.com describes angel investors as “usually investing in the person rather than the viability of the business. They are focused on helping the business succeed, rather than reaping a huge profit from their investment. Angel investors are essentially the exact opposite of a venture capitalist.”
The pros to angel investing is that, if your proposal interests them, then your opportunities can be fully recognized in a very short amount of time. Another is that they are typically willing to accept risk and demand little or no control in return for the chance to own a piece of a business that may be valuable someday. Angel investors,
however, require a high amount of return on their investment, as such an investment is deemed to be high risk; if your business fails to make a profit, or just out and out fails, they lose their investment.
Wikipedia cites the Kauffman Foundation, saying “professional angel investors seek investments that have the potential to return at least 10 or more times their original investment within 5 years, through a defined exit strategy, such as plans for an initial public offering or an acquisition.” Even though it’s a potentially expensive resource,
the depressing fact is that it’s incredibly difficult for a young business venture to qualify for a cheaper venue, such as bank financing or traditional loans.
Below are some great resources for beginning your search for a genuine angel investor:
Inc.com
Inc.com has its own directory for angel investors, as well as a comprehensive guide to finding one:
http://www.inc.com/articles/2001/09/23461.html
http://www.inc.com/guides/start_biz/24011.html
Angel Investors of Chicago
Angel Investors of Chicago is a local resource for finding (what else?) angel investors located in Chicago. Their page describes them as “an alliance of highly experienced developers and investors dedicated to providing capital to early and mid-stage entrepreneurial companies.”
http://www.angelinvestorschicago.com/
Gust.com
Gust.com is one of the more widely recognized resources for finding angel investors; they pride themselves on “professional investor relations, from pitch to exit.”
http://www.gust.com/
Have you had experience with angel investors? Have you searched for them before? Were you successful? What was the most helpful piece of information that you found in researching angel investors?
Preparing for Entrepreneurship – Establishing Operating Capital for Business Longevity – Week 4
One of the places small business owners and entrepreneurs have learned to be most wary of is traditional financial institutions; namely, banks. However, a not-so-traditional version of a traditional financial institution has become one of the champions of small businesses: community banks.
Week 4: Community Banking
If customer service, local benefits and a surprising lack of underhanded hidden fees is important to you (not to mention a drastically higher approval rating for small business loans), then community banking is definitely worth considering. A simple definition of a community bank is one that is locally owned and rooted in a particular community, and that has less than $1 billion in assets.
As opposed to megabanks, community banks often offer genuine benefits without providing many restrictions to enjoy these benefits. For example, if a community bank offers one hundred dollars to you when you open a checking account with them, it usually happens just like that, no need to keep open multiple accounts or already have an existing, or a minimum deposit of $250, nor hidden maintenance fees for the simple pleasure of keeping your money safe for you. Community banks tend to make it more their mission to help you with your money, as opposed to trying to separate you from it.
Community banks have numerous advantages to both the individual and the small business when compared to larger corporate banks and franchises. Generally, community banks will take into account a broader range of qualifications other than just your credit and current backing, such as character, family history and discretionary spending when making loans. Because they are smaller, community banks have a more intimate relationship with the businesses they work with, and are able to renegotiate as they grow; their flexibility is a quality that makes them highly prized as a resource.
One might wonder why community banks decide to stay as altruistic as they do if it means staying smaller and seemingly unambitious. Community banks do, in fact, have ambitions; they simply differ from the ambitions of mega-banks. Community banks (their name being a dead give-away) invest heavily in their community, and thrive when their community thrives. It is a personal experience highly underrated by the majority, but appreciated by anyone in need of alternate resources. Additionally, community banks are in themselves small businesses, and small businesses need to look out for each other — thus making it in their best interest to aid local entrepreneurs. They make it their business to assist, as they understand and empathize with the needs and concerns of soon-to-be small business owners.
Since a community bank is also a local business heavily involved in the community, they know the needs of said community and the logistics of the area. This is invaluable information for any prospective small business owner.
Check out this recent report from the Aite Group on the benefits of community banking and how to optimize your interactions with your local banks: http://www.aitegroup.com/Reports/ReportDetail.aspx?recordItemID=837
Do you bank with your community bank? How is your relationship with them, as opposed to megabanks? Have you considered looking into their loan process?
Preparing for Entrepreneurship – Establishing Operating Capital for Business Longevity – Week 3
Everyone knows that starting your own business is not a piece of cake, and sometimes, the pinch at the beginning happens again in the middle of your business’ existence, and again at another point in the future. What isn’t always discussed is ways to get through these rough patches.
Week 3: Accounts Receivable Factoring
This week’s topic, accounts receivable factoring, (also known as factoring, or invoice factoring) is one of the more complicated topics to understand, but is a very useful tool for up-and-coming entrepreneurs. Basically, it is the selling of the business’ accounts receivable to a third party, known as a factoring company, at a discount.
It’s time to brush up on some accounting terminology – accounts receivable is money owed to a business by its clients; an account of money owed to you. So in laymen’s terms, it’s selling your IOUs. If your business is short on cash and in need of an immediate infusion, it’s a highly viable option for getting yourself out of a pinch.
Happily, accounts receivable factoring companies are specifically set up to deal with these types of transactions and help you through a rough patch. The key to success with accounts receivable factoring is to select the right business partner with whom to work. It is usually better to go with a company that is well established, has stood the test of time and one that has expertise in the specific industry your business is in. AccountsRecievableFactoringHQ.com says “With the amount of complexity and nuances involved in various industries, teaming up with a partner who understands what you do will usually turn out better for your business. Ask the accounts receivable factoring company you are evaluating if they have a client similar to you in their portfolio. If you are a retail business, ask if they have other retail clients. Industry experience is a key factor in determining your success with factoring.” Keep in mind though, the age of the receivables has a significant effect on the amount the company receives; the older the receivables, the less the company can expect.
Have you ever looked into selling your accounts receivable? What information did you come into when searching? Did it seem like a good investment?
Panning for Gold – How to Increase Cash Flow in a Down Economy – Week 1
It’s October 2011; is your business going to make it another year? If you have noticed that your cash flow has turned into a light trickle, it may be time to ask yourself some tough questions. A business without a sufficient amount of operating capital and a steady cash flow could face sudden death. This month, our blog features four possibilities to change the trajectory of your company in slow economic times.
Week 1 – Create Continuity Products & Income
For many service-based businesses, you make money when you sell your time and expertise. If you are not working, you are not making money. Also, if you are a service-based business, you can only accept the number of clients that you and your staff are able to manage at a given time. If you adhere to this style of business, your income will make a major shift downward in a tough economy. Customers who stop calling or coming in the door during this time may seriously affect the profitability of your venture. What is the best solution for these business owners?
Offer a product or service that sells after hours, over the weekend and during the holidays.
By expanding your products and services into other forms of revenue (such as a series of books, e-books, paid downloads/pre-recorded trainings/webinars, etc.), you are able to open your business to a greater number of potential customers and enjoy the reinstatement of your cash flow. This is also known as a passive stream of income.
Other ideas for continuity income are:
- Collect a commission for introducing colleagues who go on to do business with each other
- Host a paid seminar or workshop in your facility
- Franchise your business model to other entrepreneurs
Which methods will you begin incorporating in your company this month? Today may not be the opportune time for you, but hold on to this thought.
Metrics to Watch in Creating Company Value
There have been several in-depth studies that analyzed the financial performance of hundreds of companies around the world. Insights were provided by these companies into the key metrics and strategies used by the best performers. The following were found to be the most sustainable value creators, and where focus is concentrated in those companies successfully creating value. The key numbers to watch are:
- Sales
- Net income
- Cash flow from operations
- Total assets
- Total liabilities
- Total equity
Using these six key numbers, four ratios are tracked and trended:
- Asset turnover (revenue/assets)-the higher the turnover, the better utilization of assets experienced.
- Profit margin (net income/revenue)-the greater the margin, the more profits available to fund growth.
- Cash-flow yield (cash flow from operations/net income)-the higher the yield, the more success enjoyed in managing working capital (ie., current assets minus current liabilities).
- Debt-to-equity (total liabilities/total equity)-the higher the ratio, the more of other peoples’ money (leverage) being used to finance growth.
Successful organizations do well on all these numbers. If you are not doing well on the ratios, then drilling down into the six key numbers is needed.
The entire management team needs to understand how the ratios and underlying key numbers connect to value creation.
Standards of performance can be created by looking at historical numbers over time, which will reveal ranges and trends. Then look for comparable measures within your industry to see how you fare against industry peers. Follow this up by setting some annual targets for 1 to 5 years. In other words, “do what the big dogs do” whether you are local or national in scope, and whether you are for-profit or not-for-profit.
This sets the discipline for making good decisions with the goal being to achieve outstanding long-term return on investment.
Your present performance measures may have defects; and there may be no quick remedies. CFO-Pro can provide a strategic perspective on your financial performance measures. If you are interested in connecting the strategy of your company with the financial reports, and to speak to how your company intends to create value, please contact me directly at jlafferty@cfo-pro.com or 630-269-7646.
How Properly Managed Cash Flow Strengthens Businesses
By accounting standards cash-flow cycle is defined as the number of days from a decision to produce a product (or render a service) to the date money is actually received from selling the product or service.
During the cash-flow cycle, the company’s bank account fluctuates from a deficit to a surplus level.
The cycle starts when materials, labor and overhead are purchased. The purchase creates a simultaneous accounts payable and inventory. The next step turns inventory into finished goods which are sold to customers. If the sale is on credit, an account receivable will be generated. The final step of the cycle is collecting the receivable and receiving the funds.
If money is paid out on the tenth day and money is collected on the fortieth day, the cash flow cycle is 30 days. Typically, a bank credit line is established to finance this 30 day time factor. As production continues, the cash-flow cycle repeats over and over again.
Management actions may change the time factor. For example, granting more lenient credit terms and paying bills sooner can increase the time factor. A growing time factor could be a danger signal if not properly managed. In contrast, if management creates more stringent terms by requiring cash, cash deposits or installment terms cash flow can be increased.
The cash-flow cycle is intensified if a company’s business is seasonal. During slow periods, firms in seasonal businesses try to control costs and limit losses. However, fixed costs must be paid.
The cycle can be further disturbed if the profitable months do not outweigh the loss months. If lenders lose confidence in management’s abilities, credit lines will be cancelled.
Cash-flow cycles are a business reality. They lead to trouble only when sales are highly seasonal or when annual cash flow is negative.
The first step in effective cash flow management is to schedule out, on a monthly or weekly basis, anticipated cash receipts and cash disbursements. The difference between receipts and disbursements equals cash flow. When cash flow is positive, funds are flowing into the company; when cash flow is negative, funds flow out.
Cash flow and profit are not the same. Profit is the difference between sales and cost. The one major difference is this: cash flow considers only money actually entering or leaving the company, while profit is calculated without considering whether funds have actually been received or disbursed.
More businesses fail because they have lost sight of their cash-flow challenge or because they have lost the faith of their lenders than for any other single cause. In the current economy with a tighter credit market, failures are even more likely.
The confidence of lenders or investors can be regained by establishing a sound cash flow management process. If you are interested in evaluating your business’ cash flow management process to determine if there are opportunities to increase cash flow please contact me directly at jlafferty@cfo-pro.com or 630-269-7646.
The Wisdom of Henry Hazlitt (1894 – 1993)
There are always any number of schemes for saving the X industry (The X industry is one that is obsolete, for example the Horse and Buggy trade). One such contention is that the X industry is already “overcrowded”, and to try to prevent other firms or workers from getting into it. Another proposal is to argue that the X industry needs to be supported by a direct subsidy from the government.
Now if the X industry is really overcrowded as compared with other industries it will not need any coercive legislation to keep out new capital or new workers. New capital does not rush into industries that are obviously dying. Investors do not eagerly seek the industries that present the highest risks of loss combined with the lowest returns. Nor do workers, when they have any better alternative, go into industries where the prospects for steady employment are least promising.
Similar results would follow any attempt to save the X industry by a direct subsidy out of the public till. This would be nothing more than a transfer of wealth or income to the X industry. Taxpayers would lose precisely as much as the people in the X industry gained.
It is equally clear that other industries must lose what the X industry gains. They must pay part of the taxes that are used to support the X industry.
The result is also that capital and labor are driven out of industries in which they are more efficiently employed to be diverted to an industry in which they are less efficiently employed.
If the X industry is shrinking or dying by the contention of its friends, why should it be kept alive by artificial respiration? In order that new industries may grow fast enough it is usually necessary that some old industries should be allowed to shrink or die. In doing this they help to release the necessary capital and labor for the new industries. If we had tried to keep the horse-and-buggy trade artificially alive we should have slowed down the growth of the automobile industry and all the trades dependent on it.
Paradoxical as it may seem to some, it is just as necessary to the health of a dynamic economy that dying industries be allowed to die as that growing industries be allowed to grow. The first process is essential to the second.
— Paraphrased From Economics in One Lesson (1946)
Where’s the Cash?
Click here to download the Balance Sheet Template
This is a question often asked by business owners. They know sales are being made, but don’t know where the money goes. They do know that it’s not in the bank!
The answer lies in the activity in all the other balance sheet accounts.
Look at the following comparative balance sheet. Note that an increase in accounts receivable has a negative impact on cash due to more sales not being collected which ties up cash.
An increase in accounts payable means that some vendor payables have not been paid which has a positive impact on cash.
The last column becomes your de facto cash flow statement. And you know where the cash went!
Two rules to find the cash:
- An increase in any asset other than cash has a negative impact on cash and a decrease in any asset other than cash has a positive impact on cash.
- An increase in any liability has a positive impact on cash and a decrease in any liability has a negative impact on cash.