Sound cash flow

Once a month at A4G we have an 8.30 Wednesday morning meeting involving the members of the Business club.

The Business Club is made up of managers and senior team members who are keen to continually develop the range of business advisory support we provide to clients. They’re starting to get a bit bored of this now but many of our meetings start with the following:

Q – What do you say to a client who says they have a cash flow problem?
A – Is it a cash flow problem or a profit problem?
Q – If it’s a profit problem what do you say next?
A – There are only 5 ways to solve it:

1. Increase sales but only if they are the right sales. The wrong sales will make things worse
2. Improve margins. There are lots of ways of doing this that you might not have thought about
3. Reduce overheads. The one everyone focuses on but often make the problem worse by reducing overheads which are contributing in other ways.
4. Optimise pricing (down or up depending what the problem is)
5. Reduce the amount of money the owners are taking. Hmm; don’t like the sound of that

And then we take it from there.

The reality is that the line “I’ve got a cash flow problem” is so generic that it means nothing. It’s almost a line that business owners trot out to disguise the truth and what the real problem is. To maybe hide some mistakes that they have had and don’t want to admit to yet. It’s also a line used by some business owners when their cash balance has fallen even if they still have hundreds of thousands of pounds in the bank.

But of course, if you have a cash flow problem then it’s real. It’s immediate, it’s now and it’s the one thing more than other that is going to cause you stress. As the saying goes “Turnover is vanity, profit is sanity but cash is reality”.

Unless you have somehow insulated yourself from the day to day reality of your operations, you will know if you have a cash flow problem. Look at the money in the bank and think about the bills you must pay this week.

If there are people you owe money to, they will be working on ways of tracking you down. They’ll put pressure on your staff, they will issue legal threats, they might even turn up at your house. Cash flow problems are very real.

And if you do have a cash flow problem right now, then your options for solving the problem will already be limited. Your credit rating may have fallen, making borrowing difficult.

Sometimes you might find yourself past the point of no return and left with no other option other than to liquidate and perhaps set up a phoenix company.

The key to solving a cash flow problem is to avoid it. To know it’s coming. And to make the necessary changes to ensure it doesn’t happen. As Warren Buffett’s business partner, Charlie Munger is fond of saying “Tell me where I’m going to die and then I won’t go there”. I’m quite fond of saying that myself so apologies if I’ve used that line before. I’ve spent a lot of time in my home office this year!

So how can you forecast where you are going to die? 

Lots of advisers are fond of producing big cash flow forecasts for the next 12 months that contain loads of numbers. It’s also what the banks require when you ask for a loan.

But it’s a work of fiction. There are so many variables in there that it cannot possibly be an accurate prediction.

It’s like trying to forecast the weather for the next 12 months. If you have the data and know what you’re doing, you can forecast tomorrow’s weather quite accurately. And probably for the next week.

You might even be able to forecast the weather hour by hour. The BBC website was incredibly accurate up until the planes stopped flying and the volume of data the Met office was getting drastically produced.

Week 2 forecasts weren’t too bad but if you were to plan a picnic let’s say for 12 days’ time based on the BBC weather forecast and then checked the weather forecast for that day every day you would see subtle changes. The rain forecast for the day after your picnic might now be predicted for the day of the picnic. Disaster! Should we cancel?

And just after you’ve texted everyone to cancel, you check the forecast again a few days later and the rain is now predicted to be the day before the picnic. Now you’ve got to text them all again and hope they aren’t doing something else. Don’t worry, they won’t be – not at the moment anyway!

The point is that the longer the forecast is the less accurate it becomes.

That doesn’t stop someone somewhere with dubious qualifications making these long-term predictions usually around March time. Pick your choice of headline:

• Phew what a scorcher. Britain braced for 5 month heatwave

• Washed out! Britons book foreign holidays in record numbers as forecast predicts the wettest Summer on record

Look around the papers and you’ll find both of these sorts of articles kicking around in Springtime. Eavesdrop a few conversations in pubs, trains or your office and you’ll hear these dubious forecasts reported as fact.

Now imagine that the weather forecast is being produced by an overly enthusiastic and positive weather forecaster who desperately needs a prolonged period of sunshine to sustain their TV career get them an appearance on next year’s Dancing on Ice.

That long-term forecast might start turning into the “Phew, what a scorcher” sort of forecast.

And that’s the same thing that happens when someone produces a cash flow forecast in order to impress a bank into giving them an overdraft. We’ve produced forecasts based on a client’s estimate of various things which makes it very clear that they don’t need an overdraft!

Alternatively, perhaps you are the modern version of Michael Fish and have been unfairly criticised in the past for an overly optimistic forecast.

Remember 1987? “Earlier on today apparently a woman rang the BBC and said she had heard that there was a hurricane on the way. Well if you are watching, don’t worry, there isn’t”. But of course, there was.

So, you don’t want to make that mistake again and prepare an overly pessimistic forecast.

“Right we’ve prepared your forecast and it seems like it’s hopeless. You might as well pack it in and get a job.”

The banks must know how inaccurate these forecasts are. I secretly believe that asking for them isn’t about the forecast itself but is a test. “Let’s see if you can get a cash flow forecast done. If you can’t then you’re not up to running this business and we aren’t going to lend to you.”

Maybe any bank managers on our mailing list can email under a pseudonym of some kind and tell me if I’m right.

But there is stuff you can do.

First of all, you need to make sure you know what your new break-even point is. If you are below it, then even if cash flow is not a problem now, it will be in the future.

Next you need to compare what you have available now with what you ought to have at this moment. Many clients of A4G, complete something called the 5-minute cash flow which is a retrospective review of those figures each month. If it shows a deficit then that is a good predictor of a problem further down the road. Do this every month and over time you will start to see trends and be more confident in understanding the challenges.

But even if you are making a profit, you can still run into cash flow problems. You may be growing faster than you can finance your working capital and fixed assets.

To help, Emma White’s 11 tips for cash flow management are a must.

But even Emma’s tips might not be enough. As a junior, I sat in the open plan office of a company we were auditing watching the mayhem around me. The business was growing exponentially but they couldn’t afford the staff they needed to do what needed to be done. Errors were being made, customers were getting upset and ultimately everything they did that was good was being undone by the things that were going wrong. Eventually, they went bust.

Getting the finances right (maybe talking to my colleague Will Richardson at A4G Growth) is crucial in that situation as is tackling the limiting factors in the right order (something explored in our video the 60:30:10 rule of growth).

Currently there is extra help available in the form of Bounce back loans and the Business Interruption loan scheme although this tuff won’t be around forever.

The next few months are going to be challenging in all sorts of ways and you are probably going to need some help. The A4G Breakthrough Recovery programme covers many of these challenges and we’d love to help as many clients as possible.