What does 'working smarter not harder' really mean?
If you are short of cash there is strong anecdotal evidence to suggest that, in a lot of cases, working harder, generating more sales, can simply compound financial problems.
We long ago lost count of the number of times we heard entrepreneurs relating how they were told to simply 'grow themselves out of trouble'. In the current climate this would be hard enough anyway but irrespective of the state of the economy, it's invariably a recipe for disaster; innocent advice given by people lacking the necessary cash flow understanding which has, in some cases, had terrible consequences.
But at the same time one can understand why one might be inclined to think this advice should work.
Take two businesses:
- The first works 5 days a week, 7 hours a day. They make lots of money
- The second works 5 days a week, 7 hours a day but makes no money.
Even assuming both can sell what they make, while there might be rare exceptions, in practice, the second business typically gets into deeper trouble.
What's wrong with Sales?
In short, absolutely nothing - now more than ever it's the essential lifeblood of any business. And if sales dry up, which has proved the case for too many in recent times, businesses find themselves having to fund losses.
But as sales grow, a business has to fund the associated growth in assets - equally undesirable in cash flow terms as funding losses. So cash flow is particularly sensitive to sales. And it's not so much sales per se but the profit margins and time taken to receive payment that matter. And all too often this is poorly understood with many companies absorbing (rather than creating) cash as they grow. And this has profound implications.
Systems don't tell you what you need to know
When commercial businesses (or social enterprises for that matter) compile short-term cash flow forecasts, these are based on the coming weeks of expected cash-ins and cash-outs. And, done properly, these often prove critical. But at the same time, it's essential to appreciate the limitations of what these forecasts tell you. Such projections simply don't help you assess whether the business is designed to create or absorb cash. This might well surprise you. Well 'why not?' you may ask.
If (say) you predict you'll have more cash in the bank in four weeks time, is that because of what you have achieved through the Profit & Loss Account (or Income Statement)? Or is it because you plan to collect cash quicker from customers or pay suppliers more slowly? Probably a mix of all these but what this means is that the required sales / margins / cost-baee and other targets needed to build financial strength into a business, remain unclear and elusive viewed through the lens of the conventional short-term cash flow.
Not surprisingly, with the limited tools people feel they have to manage the financial situation of the business directly (aside from working harder, hoping things will come right) many turn to some quick-fix cost cutting hoping this will prove to be enough. It's a sad indictment of financial training (probably) that key relationships and the array of other options available are not more widely appreciated.
So ultimately, the risk is terminal - a business simply runs out of cash - often with precious little warning. And it feels like this must be down to a lack of sales. But in truth the key financial relationships in a business are, for the most part, the size of one number relative to another, not the absolute '£' or '$' numbers themselves. So it's the underlying financial design of the business that typically plays the bigger part. But routine financial systems don't offer this sort of insight.
Reverting back, for a moment, to our two businesses working 24/7 - pump more sales through a business that has hitherto struggled to see strong sales translate into a bigger bank balance and precious little will change. Sales volume is not the issue and it won't be the answer, at least not by itself. Other factors will be exerting a bigger influence and matter more. But these vary on a case by case basis.
Who is most at risk?
Truth is, no business is immune to these cash flow perils. Retailers are generally less exposed, but even here a balance has to be struck between discounts, sales volumes and the ability to meet overheads and payables commitments. No shortage of big names have demonstrated that this is far from easy in recent months. Even prior to the real downturn, this was evidenced by pressures put on suppliers by the likes of Iceland and Alliance-Boots (who, in turn, have their own financial issues).
But the dangers are probably greatest for those businesses selling on credit, particularly sectors like construction. Not only is their business essentially contractual, making sales levels particularly difficult to predict but they also tend to have large funding-needs. And lenders (for good reasons) are reluctant to get too over committed.
If you would like to understand cash flow better you might like to consider our entrpreneur training. Some have used this (successfully) as the basis for a 'DIY turnaround'. Or, if you have particularly pressing concerns about your current situation, you can see examples of how we have helped others with business financial problems or call us in confidence and without obligation.