In hard times, the absolute, number one, unequivocal most important thing to do is protect your cash. In every downturn, some companies not only survive but prosper. I earnestly hope the following tips will help you reach your fullest potential.
The best practices presented do not necessarily appear in order of priority, and due to your particular circumstances, some of the practices will be more or less valuable to your closely held company. They also are not presented with exhaustive analyses, but rather, are accompanied by brief explanations. More depth on these topics is as close as doing Internet research or contacting us at The Family Business Institute.
As you read these tips, try to select the highest impact practices upon which to focus.
1. Focus on cash flow rather than paper profits.
Cash flow seems like a simple concept, but it’s not. Cash is king in business, and no company can survive for very long without generating positive cash flow. Cash flow is defined as a company’s cash inflows minus its cash outflows over a given period of time. Most closely held business owners think of cash as revenue less expenses. This is simply not the case.
To comply with generally accepted accounting principals (GAAP), financial reports and filings generate a great deal of “accounting static.” It’s quite difficult to tell from an income statement or balance sheet how a company’s cash is actually utilized and the condition of the company’s current and future cash flows. A profitable company doesn’t necessarily have positive cash flow, and a company with positive cash flow may not necessarily be profitable.
Cash flow is one of the most commonly used terms in business, but it’s generally not very well understood — even by financial professionals — and it can get pretty confusing. Growing companies find themselves in cash flow trouble because they usually have to invest money before they receive it in exchange for their products or services.
For example, a farmer must utilize cash to improve or upgrade equipment, buy seed and pay employees with the understanding that he won’t be able to sell his crops until several months in the future. As is always the case, investment comes first and return comes later (one certainly hopes). Relying only on income statements creates a false illusion; income statements tell how much cash a company will eventually create.
If a company — especially a growing one — doesn’t have a well-developed capability for predicting future cash flows, it will find itself in trouble. Can a company go broke while simultaneously enjoying high profitability? You betcha!
In hard times, cash flow is paramount. Sales may flatten or even fall while fixed costs remain static. If sales fall below the point where the company is able to produce a paper profit, it still may not be time to panic if the company has strong and stable cash flow. If the company cannot stabilize cash flow operations, it may be time to give serious consideration to the alternatives no matter how distasteful they may seem. Can a company stay in business while showing operating losses if they have strong cash flow? Absolutely!
Family and closely held companies need to get ahead of the curve in hard times and intimately understand and predict their cash flows.
2. Collect accounts receivable.
When we analyze clients’ financials, we are continually amazed at the condition of their accounts receivable. It’s not unusual to see client companies with an average collection period of 75 days or more. It may be OK to allow customers to pay in a leisurely fashion in normal times, but during hard times, existing in that state simply means that you’re extending credit — often interest free — to your customers. Doing collections is an uncomfortable practice, and most family and closely held business leaders are genuinely nice people who hate to be aggressive or pushy.
If you’re ever going to ratchet up your aggressiveness or pushiness with your customers, hard times are the time to do so! If you rely on a staff person to do collections, keep a close eye on days collectable. Whenever customer payments get out beyond one reporting period, jump into the situation yourself if necessary. In order to protect your cash, your company, and your family business’ future, you have to be ruthless and tireless in collecting accounts receivable.
3. Focus on lender relations and keep them informed.
Banks do not like surprises. Whether you’re doing OK or whether you’re experiencing some recession difficulties, now is the time to invest a few hours in keeping your banker informed. Make sure you adhere to all your loan covenants, and meet face to face with your banker regularly.
Be sure your staff is sending updated financials to the bank each month. Your bank has a vested interest in keeping you healthy, especially in light of the turmoil in the financial services industry following the subprime