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Control the cash by Dale Adamson

02 Feb 2017

Our last article pointed out that a very profitable business may still fail if cashflow is not managed. We emphasized the need for adequate working capital when establishing a business and the importance of knowing your breakeven point. 

However working capital is made up of a number of components, not just cash in the bank. How these other components are managed will affect the on-going availability of cash.

The first is accounts receivable (debtors). A sale is not the end of a transaction; it is not complete until the money is received. Poor processes will result in slow debtor collection which may affect the business’s ability to meet its own debts. (a domino effect on multiple businesses.)  Tight terms of trade, prompt payment discounts or late payment interest, and swift follow up of tardy customers can all assist in debtor control.

Inventory (stock) is also an area where tight control is required.  A common mistake is trying to stock every item you think your customers will want. Often stock can only be purchased from wholesalers in multiples (boxes etc). So if a business buys a pack of 20 widgets at $10 each, but only sells one at a retail price of $15 in the year, there is a net outflow of cash $185.in that year - cash not available to invest in other faster moving stock.  Consideration has to be given to stock turn (the time it takes to sell) for each stock item to avoid overstocking.  Special bulk buys may not be a bargain if they can’t easily be turned into cash. Stock should also be reviewed regularly for obsolescence and written off as appropriate, thus getting the tax advantage of the write off.

For service providers unbilled work in progress (“WIP”) can also be a problem. WIP includes costs billed from suppliers and wages paid to staff.  It should be billed as soon as possible, preferably by progress payments rather than waiting on full completion of the job.

Accounts payable (creditors) can also be controlled to assist cashflow.  Businesses should negotiate the terms of trade with their suppliers to provide optimum outcomes. There is a misalignment if your customers pay on the 20th and you have to pay your suppliers on 7 day accounts. If expanding into a new stock line, negotiate with the supplier for extended payment terms or even taking stock on consignment.

Management of the working capital components is only one facet of managing poor cashflow.  We will be presenting a seminar on cashflow management soon. Please email kaitaia@pkffa.co.nz or phone Debbie or Tiri on 09 4089366 to register your interest, so we can forward the details once finalised.

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