How’s your cashflow? It’s a vital question right now.
Ask your finance director what their three main priorities are and you’ll get the answer “cash, cash and cash”.
In a downturn, cash means you can pay your bills and stay in business. Or, as one FD puts it, “You can make losses for years, but you only run out of cash once.”
There’s a good chance it’s going to get even more important quite soon. So it’s probably time for a refresher course.
A few things cashflow is not
(If these seem obvious, consider how many companies have got them wrong since the financial crisis
Cashflow is different from profit and loss. Whether an activity is profitable is important, of course. But the time when you actually see the cash come in from customers determines whether you can use it to pay bills (particularly the important ones, like wages, rent and taxes).
Nor is it working capital. Money that’s unavailable — invoices customers have yet to settle and stock you haven’t sold — is working capital. You enhance your cash position by minimising working capital and extending the time you take to pay your own suppliers, the tax man, your landlord and so on.
The reason cashflow could become a problem now:
At the start of recession, most businesses get caught out. They’re still ordering stock as if sales are buoyant, and then orders drop off a cliff.
That means they have lots of cash tied up in inventory. They stop ordering goods to stem cash outflow and start to run down their investory levels to meet (a lower level of) orders, converting that working capital to cash again.
When the inventories start to run low — as is the case now — companies can start to order again.
That’s good news for their suppliers. But instead of converting stock to cash, they have to start paying for goods again.
Customers paying on credit mean cash inflows can lag outflows unless you’re careful. Worse, when the recovery does kick in (we live in hope rather than expectation) growing order sizes further stretch working capital. Overtrading is a nice problem to have, but it’s still a problem.
The solution?
Well, the 13-week cashflow forecast is perhaps the most important tool in the FD’s armoury. It picks up potential problems and ensures you can manage working capital proactively.
Better yet, be a supermarket. The main reason Tesco has been such a blistering success is that it had negative working capital.
People pay at the tills in real time, while the supermarkets don’t pay suppliers for 30, 60 or even 90 days. All that cash, then, sits merrily on their balance sheet or can be used to expand their business.
