It is often said that cash flow is the life blood, the oil that lubricates all parts of a business. Our take on it is that it is actually better likened to water in a human body. Cash Flow constitutes more than 75% of your business and it catalyses most transactions within your business and with all your stakeholders. Ensuring a well functioning business often equates to ensuring a well management cash resource. Changes in your assets, liabilities and equity are all different types of cash movements in and out of your business. In fact nowadays most transactions happen through some exchange of value or cash from one party to another. Here are a couple of factors we look at when considering a Cash Flow Management Plan for your business. All pertain to the nature and character of the cash generated:
- The quality of the cash – certain cash items such as assets have different characteristics within their own group and also differences when compared with other types of assets. For instance there can be depreciating and appreciating assets etc. Also liabilities are a source of cash but they also come at a cost. The forms of the asset are also important. Assets that hold value but have high disposal costs, cannot be easily controlled or monitored, ownership is difficult to determine and valuations difficult to determine (gap between market, replacement and forced sale value too large) are not good stores of value at all for an example;
- Availability and accessibility – two related but different aspects. Availability is about when you can access the cash and accessibility is about where and how. Both these factors are important because allocations to the incorrect value-storing asset can often mean financial ruin or at least a lot of discomfort and pain. An example of availability is when you have funds on 30, 60, 90 or more days’ notice or whether you have them on call. For accessibility it is whether the funds are held in a South African/foreign bank account or as equity in a business, property, endowment investment policy etc.;
- Risks specific to your business, industry, country of operation or micro-and macroeconomic factors. What could happen to jeopardise your cash flow position;
- How well the cash maintains value – reduction of buying power, taxes etc.
Furthermore the word “flow” in cash flow indicates that cash must be constantly in a state of flux. It must move in and out of your business regularly enough for you to be able to continue normal operations (operational expenditure), make in investments in growing the asset base or future profits (capital expenditure) and/or disbursements to the owners of the business (drawings, dividends, shareholder’s loan repayments etc.). These moves in and out must be measured and here are the two main effects:
- The Business cycle – the business cycle is the periods of time where your business experiences differing times of enhanced and slower economic activity. The highest activity point is called a peak and the lowest a trough. An example is that the Construction industry is most active between May and November in each year for various reasons. The largest one being that the government drives a lot of construction at the moment and their coffers are full in the new financial year and they slow down towards the end of the year as cash flow dries up and the holidays do the rest;
- The Cash Flow/Working Capital cycle – The cash flow cycle is the lag between when a business outlays on raw materials and to the business receiving the cash in their bank account for the product, service or goods rendered to their clients. A company can buy and hold raw materials for 30 days convert it to work in progress somewhat over the next 15 and only finish the product in the following 15. This would mean that the cash has been sitting in stock for 60 days. If it takes another 30 days to sell and another 60 to get the cash in then this cash flow cycle is 150 days long. This would mean it takes 5 months for the business to turn its cash flow cycle just once. This places a considerable strain on the business and needs to be planned out prior to conclusion of a sale to a client and managed continually afterwards.
In my experience as a banker I found that about 40-50% (if not more) of the requests for funding had been because of a cash flow shock occurring in my client’s businesses or personal financial profiles. This then resulted in the cash flow management getting more attention. We advocate a regular and proactive Cash Flow Management plan that achieves the following 3 things in the very least:
- A structured method to guide decision-making on how to spend and manage cash flow now so that you can achieve short, medium and long term goals. With the example above imagine what happens to your income and bank balance should you be able to turn your cash flow cycle twice or three times in 4 months instead of once. Even when acquiring assets banks/funders normally require up to a 50% split of (a business’) own cash to the lending they provide on vanilla deals. Building liquid and near-cash assets is very desirable for growth;
- Always having free cash flow on hand in cases of emergencies and/or opportunities arising. You can also avoid overcommitting yourself and ruining a good cash flow position or worsening a bad one. When they say cash is king they are not lying. “In the land of the bus shelter the man (woman) with the car is king”. In cash flow terms “in the land of opportunity cost the man (woman) with the cash is king”. With this free cash on hand you can grow your Asset base more proactively amid more choice. The larger your asset base (especially with assets that hold value very well and are easily realisable) then the more resilient your business will be to shocks and the more you are able to take advantage of more opportunities as they come along and;
- Reduce and manage your cost and availability of capital and improve your long term cash flow position’s trajectory.
Life specifically gets complicated the more businesses/cash flow sources one has because managing cash flow becomes an exercise in natural attrition unless you have a proactive plan with a well-defined mandate and rules.
In conclusion, no funder bank or otherwise desires to fund cash flow shocks. Even though exceptions can be made funders generally want to fund growth with the positive returns you will generate for them being a big carrot. Such is the nature of doing business with them. Getting a comprehensive and well-worked Cash Flow Management plan will go a long way to ensuring that not only do you optimise own cash flow within the business and generate more profits and cash flow but you can also access much better funding structures and frequency. A Cash Flow Management plan utilised in conjunction with a capital raising plan can go a long way to ensuring a cost-effective and efficient cash management resource for your business. To make this even more robust a funding specialist who is au fait with capital structuring and working capital solutions can often free up a lot of cash flow for any business and ensure that the business is in the best position to tackle the current tough state of economic affairs and thrive.
Ntuthuko Zwane, is a Business Evolutionist and Cash Flow Management and Funding specialist at HMZ Capital. HMZ Capital offers workshops to businesses that seek to improve their cash flow by influencing their selling process. Please like our facebook page and join our mailing list to get more information from us: www.facebook.com/hmzcapital and comment on the blog as well. For our full suite of services please visit www.hmzcapital.com/services-corporate-advisory-capital/ and contact us via the Contact US Page or email for more information.