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Turn your balance sheet into an ATM


Cash-strapped business owners aren't the only ones suffering these days. Let's have a little sympathy for bankers.

As a business owner, you may be distressed by tight credit but so is your banker. Bank officers used to attend networking meetings to make deals, recruit new customers and lend money. Now they go to the same meetings begging for deposits and cash management fees.

One banker related to me that a customer said to him, "You're the one who caused my business to fail." Regardless of who is to blame - business conditions, easy credit of the past or regulators demanding higher equity ratios - the fact is that if you are a business owner, you have to find a way to produce cash for operation.

Consider your balance sheet
There may be secret stashes of cash within your own company. I'm not talking about the usual suspect techniques: Extending non-critical vendors, eliminating slow moving inventory and knowing what your customers owe are just a beginning. Unfortunately, your cash flows have experienced only marginal improvements by using those methods. The key is to manage cash flows effectively.

Where do I begin?
Assuming you have relevant and accurate information, effective cash strategy focuses on three components: inventory, accounts receivable and accounts payable. The focal point of a good cash management strategy for inventory rests on a SKU (Stock Keeping Unit) analysis.

When conducting a SKU analysis, each SKU will fall into one of eight possible categories (see Table 1 below). SKUs that fall into Category 6 should be eliminated immediately as they are unprofitable, have no strategic value and will ultimately produce negative cash flow regardless of their volume.

Table 1: EKS&H SKU Justification Categories

Category 1 Profitable, Non-Strategic, High Volume
Category 2 Profitable, Non-Strategic, Low Volume
Category 3 Profitable, Strategic, High Volume
Category 4 Profitable, Strategic, Low Volume
Category 5 Unprofitable, Non-Strategic, High Volume
Category 6 Unprofitable, Non-Strategic, Low Volume
Category 7 Unprofitable, Strategic, High Volume
Category 8 Unprofitable, Strategic, Low Volume

SKUs in Category 7 and Category 8 require additional analysis to determine whether their overall strategic values exceed the profit losses that incur as a result of servicing these SKUs. Examples of products that fall within these categories include loss leaders and complimentary products. If the net effect of their existence within the product line is positive, then their existence is justified. If the net effect is negative, they should be eliminated.

After eliminating SKUs that fall into Category 6 and eliminating SKUs within Category 7 and Category 8, focus on the remaining SKUs. For the remaining SKUs, the goal is to either encourage sales, raise prices or lower costs, considering whether the category requires more working capital, is high volume or strategic in nature.

Accounts receivable
When looking for the right cash management strategies to improve cash flows from accounts receivable, it's appropriate to ask the following questions: Given the risk level of each customer and the likelihood of bad debts, am I being properly compensated for the risk? What costs am I incurring to service each customer relative to the positive cash flows that they generate for me?

A well-designed credit policy that is enforced and frequently reviewed is very important to risk mitigation. Some other easy and cost-effective practices that pay-off huge dividends include:

• Review customer financial statements
• Check three vendor references for payment history and credit limits
• Contact bank references
• Consult customer references
• Consult Dun and Bradstreet
• Require prepayment for new customers to establish credit
• Keep an ear to the ground for rumors
• Update credit limits in your system and use credit holds

Keep aging reports by your phone and follow up daily on past-due accounts before they become issues. Putting stops on shipments until payments are made and maintaining close contact with customers and the sales team are a few ways to mitigate risk. Incentivize the right behavior - consider basing sales commissions on cash collections instead of top-line sales; provide discounts for early payment terms. Additionally, including sales personnel in the collection process can help them better understand where they should be spending their efforts.

Accounts Payable

Accounts Payable cash management strategy centers on vendor management. Understanding your credit limits and terms with key vendors is essential. Knowing how far you can stretch vendors before damaging relations is critical. Track your vendor's credit terms, both written terms and actual tolerance. Too much dependency on one vendor creates unmitigated risk, and sometimes having more vendors can result in a higher borrowing capacity. You need to balance this capacity while not negating buying or negotiation power. Pay invoices separately to take advantage of the maximum borrowing period on each invoice.

In the event that you cannot pay your vendors, do not hide from them. Rather, communicate to them where you are and try to reach an agreement. Your relationships with your vendors are key to maintaining good credit terms with them. If they trust you, they will be more likely to work with you when times are tough.

Links: CNN on small business lending difficulties.

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Joanne Baginski

Joanne Baginski is a principal with EKS&H Business Consulting, providing management consulting services in the areas of business finance, capital structuring and mergers and acquisitions. She can be reached at jbaginski@eksh.com or (303) 740-9400.

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