Cash Is King!
I joined a company called DSM (https://www.dsm.com) in 2008, right at the time that the sub-prime crisis hit the world. Looking back at those times, I remember being quite unhappy about the global situation—I was looking forward to getting investment into my new portfolio, but it had to be postponed. The sub-prime crisis hit the world with a smack and reminded everyone that ‘cash is king’.
Most small to medium-sized companies often confuse cash flow with petty cash. Additionally, they confuse it with profit. While you need to make a profit to create cash, it does not help if that profit is tied up with customers, in inventory or dead assets.
Petty cash is cash lying with your accountant, or somewhere in the office. This is what you will use for small, daily expenditure like lunch for the employees, a spot of stationery, etc. Therefore, it is not cash that you need to run the operations of your company.
Cash & Profit
Now, let’s move on to profit. You make a profit when you sell goods, and then deduct the total cost of the goods sold. When I use the term ‘total cost of goods sold’, I am including administrative, marketing costs etc. Please note, this is not an accounting post! So I am using the expression ‘total costs of goods sold’ loosely, and I am not using the expression, ‘COGS’!
However, when you sell a product, there are a few things to consider:
1. You may have sold that product on credit. If so, you may realize that your ‘cash’ is with your customer.
2. Some you may not have paid for some expenses like inventory, advertising, etc. This is extra cash with you.
I know that this is a very simple example, but if the customer owes you $100 for the product, and you must pay $70 to your creditors, then you have a negative cash flow. Therefore, in this very simple example, you have “invested” $30 of your own cash in your business. It does not help to say that cash is king if you don’t have cash!
Now, if you must pay your creditors before you get your cash from your customer, you are in a spot of trouble. Then, you may have to take a short-term loan, which will decrease your profitability.
Covid-19 has ravaged the economy over the last 15-18 months. If you have a moment, think back to the period pre-Covid, and you may realize that the economy was down even before Covid-19 hit us. All that Covid-19 has done is to have deepened the rot.
The events of 2008 were a sort of financial pandemic, and what has been happening is a real pandemic. You may have been forced to renegotiate loans or ask for new loans. However, you must service loans.
When you think of this, it should lead you to one conclusion, and that is that you must put some additional focus on cash management.
Managing Cashflow. A Few Thoughts
So, a few tips and resources may help:
- Be strict about the payment terms that you set with customers. Ensure you get your money on time. If possible, and if it does not upset your customer, try to get more favorable terms.
- Don’t pay your suppliers before the due date.
- Manage your inventory. Often, dead inventory sucks up too much cash.
3.1. Have a keen eye on your slow-moving inventory. Often, this can become like an albatross around your neck.
3.2. Work with your suppliers to reduce procurement time.
3.3. Do a critical appraisal of your supply chain.
- Re-evaluate sales forecasting methods. From my experience, sales and marketing departments often make forecasts haphazardly.
- Re-evaluate your strategic plans, especially those which demand that you buy assets. In fact, be as asset light as possible.
- Get someone to look at your production processes and product design. If you can make them as modular as possible, then you discover that your inventory carrying costs will reduce.
Yes, the sub-prime crisis alerted me to one thing, and that is cash is king, especially in troubled times.