Falling sales, distressed customers, disappearing credit insurance… The old saw that cash is king has never been more true, says Richard Young, co-author of the CIMA guide to improving cashflow.
“For me as FD – and for my team, and for the business – the absolutely top priority bar none is cash. Everything I look at, every day, is based around how it affects our cash position. My approach is draconian. Right now, I personally sign off on every pound that this business spends – before it’s spent. If I can’t see how it helps our cash position, I don’t allow it.”
That’s the finance director of a publicly-quoted fashion retailer talking frankly a couple of months ago. In fact, despite less-then-stellar results from Marks & Spencer, retailers have been less badly hit in the recession than was feared – and the general sentiment across business is that things are unlikely to get much worse, even if an upturn is still a few quarters away. But cash remains the overwhelmingly dominant metric for finance functions. As the same FD added: “You can make a loss for years – but you run out of cash only once.”
Banks remain twitchy
A lower level of demand is only part of the cashflow problem. The broader retreat of the financial services sector has caused constipation in the credit insurance market. Without insurance, suppliers are forced to take at least a portion of their payments up front, creating havoc in the cash positions of retailers and business end users.
The UK government recognised this problem in the Budget, announcing up to £5bn of extra insurance as part of the Working Capital Scheme. Critics argue the terms and conditions – especially exclusion from the scheme if credit insurance has been withdrawn altogether – make it a lukewarm attempt to solve the problem.
Banks remain nervous of lending – often for perfectly good reasons related to the recession as much as the credit crunch. And there’s little prospect of imminent increases in sales (although rapid growth poses its own cashflow dilemma, of course).
That throws the cash problem squarely back into the arms of the finance function. Good cash disciplines need to be revisited and reinvigorated from time to time to ensure the business can pay its bills.
Three steps to cash control
The first, and most important, step is the cashflow forecast. Ask any turnaround professional about “job one” when they arrive at a troubled business and they’ll tell you it’s getting a penny-for-penny short-term cash position, then a robust 13-week cashflow forecast. Usually, that forecast has been overlooked – which is why the business ran into trouble in the first place.
Step two is improving collections. Take a look at days sales outstanding (DSO - 365 x accounts receivable balance/annual sales). That number needs to come down, so the first step is handling aged debtors. During a recession, this is tricky: customers are probably having their own cashflow problems, and a heavy handed approach could send them over the edge. But pay they must.
Next, take a look at your disputes policy, too. Many aged debtors will be arguing over an aspect of their contract. Those disputes can fester lower down the food chain in your own finance function. So escalate all disputes to senior decision-makers who can resolve them quickly and get the cash in.
Think about cash-up-front discounts, too. If the forecast is showing things getting tight a couple of months out, it might be worth sacrificing a bit of margin to accelerate payment. Efficient processes throughout your organisation are crucial. If you fail to deliver goods or services on time or with the right quality, those disputed invoices will mount up. And it’s important to double check that salespeople are sending out invoices promptly. Cashflow is something the whole business needs to understand.
Don’t break the supply chains
Step three is about payments. Days payable outstanding (DPO - 365 x accounts payable balance/annual cost of goods sold) should be creeping up to boost cash reserves. But the supply chain remains an important consideration here, too. Chisel your suppliers too hard, and they might go bust, leaving you with worse problems.
Cashflows from customers and to suppliers need to be managed proactively. That means communicating well throughout the supply chain – especially at times when credit insurance is being withdrawn or order books are looking temporarily lightweight. Your credit control team has a vital role in that respect, acting as both your eyes and ears with counterparties. If they’re empowered to be account managers, they can be a major source of positive cashflow.
The final step is stock. Days inventory (DI - 365 x inventory balance/annual sales) needs to be falling. Those of you running a manufacturing or retail business don’t need CIMA to tell you about the dangers of tying up cash in stock. (If you’re the FD of a car maker or one of their suppliers, it’s probably giving you grey hairs right about now.) Suffice it to say that, like all aspects of cashflow, inventory requires special focus during uncertain periods. Tight processes, firm discipline and sure-footed planning are the stuff that good management accountancy is built on.