Monday, 25 November 2013

Billy's Seventh Law: There are two ways to go broke. No profit is the slow painful way – no cash flow is the fast painful way!

Financial Statements are the blinds drawn by accountants to keep the mangers in the dark.

John Cleese:  The Balance Sheet Barrier
Of all the concepts I have taught and consulted on over the years, the most important is Cash Flow.  Now I know what many of you are thinking…I don’t like ‘financial stuff’…I don’t understand ‘financial stuff’ … I don’t do financial stuff.  As John Cleese said in the Video Arts production The Balance Sheet BarrierWe leave the financial arrangements to the financial people just as we leave the catering arrangements to the canteen people…We believe in trusting people.”
As an entrepreneur, you need to understand all aspects of your business.  As your business grows and develops, this concept becomes increasingly important. Cash flow is one such area.  Just because a business is profitable, doesn’t mean it has positive cash flow…and you need to have positive cash flow, or the ability to finance negative cash flow to keep your business running.
There are two places cash hides in a profitable business. (It doesn’t take a PhD in finance to see that a non-profitable business will eventually have a cash flow problem.)  The first is Accounts Receivable and the second is Inventory. 
The reason for the problem is that of simple timing.  With an Account Receivable, you make a sale, send the invoice and then later (sometimes much later) you get the cash. The Collection Period is he time taken between sending the invoice and receiving payment. You often incur cash expenses and other costs as a result of making the sale but before the subsequent collection. This creates a shortfall; the cash collections have not yet caught up to the cash outlays.  The period, between the cash expenditure running the business and the time taken to collect the cash creates a cash shortfall. You must either have sufficient cash to survive this temporary shortfall, or you must have sufficient borrowing capacity to finance the shortfall. 
I have a short video on the effects of collection period on your cash flow found by selecting the link below:
The second common place cash hides is in inventory.  Inventory is the cholesterol of clogs up your cash flow arteries and kills your business.  In most cases, you don't sell your inventory before you pay for it. This again creates a time lag between payment for inventory and sale of inventory. 
When too much cash is absorbed in inventory and accounts receivable, there is not sufficient cash to pay the bills. Since you recognize sales on sending the invoice, and not on collection, and since you do not recognize purchases of inventory as and expense until you make the sale, the business may have a profit, and at the same time, no cash. 
Every business, especially a growing business, must manage cash and measure working capital regularly.  As your business grows, take time to plan.  Forecast your revenues and expenses and then, for goodness sake,  please, do a cash flow.  It might well be the difference between success and failure.  If you don’t know how, you can go to the Small Business BC website and take my cash flow workshop.  These are now offered as a ‘Webinar Option’ so it doesn’t matter where you are, the seminar comes to you.  Go to and search for Cash Flow, part of the Business Viability Series.
A final thought, from Charles Dickens’s novel David Copperfield:

Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six…result happiness.  Annual income twenty pounds, annual expenditure twenty pounds ought and six…result misery.

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