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Managing Your Cash Flow During Tough Economic Times
By Greg Hoyle
If cash flow is the lifeblood of a business, then this must
be heart attack season.
Here's a story about a contractor in Virginia that may be
in crisis and doesn't even know it. He has a relatively big
company - over a million a month in payroll, lots of heavy
equipment, a half million in monthly debt service and a strong
backlog of work.
But he has one serious problem: he's struggling to pay his
bills. He thinks his problem is that his developer clients
are slow to pay him. And he's partly right. I asked him if
I could look at his cash flow projections. This is what I
learned.
Overestimating
At first glance, he has a good report format. His report starts
with his beginning cash balance and then he adds in the portion
of accounts receivable due in the next month.
From this available cash, he deducts out his normal cash outlays
for the month. Then he carries his remaining balance over to
the next month and repeats the process again going out six months.
On the surface this looks like a good, normal cash flow statement.
But here's the problem. The portions of accounts receivable
he projects he will receive each month is based on a collection
percentage of 45:25:20:10. This may be historically accurate
for him but does not take into consideration the current economy
and actual delays. He is, in fact, most likely overestimating
what he will receive.
Another problem is that while he plans on paying all his bills,
he has no strategy for how to cut back if he has to. Is this
realistic? He's already $600,000 behind with one key sub and
that, as one example, is not reflected in his statement.
Also, where is his line of credit balance? Not on this statement.
He may have a good understanding for just where his limits are,
but I have found that a good analysis of cash flow should punch
you in the mouth; it should make problems clear and obvious.
Strategies
So how much good is his cash flow statement doing him? It's
not realistic for collections or even payables, and it doesn't
reflect when he will max out on his line of credit.
So how does he fix this? Historical collection patterns do give
you a starting point for accounts receivable projections, but
best-case and worst-case scenarios can be really helpful. Additionally,
the payables should be categorized to show which ones need to
be placed further out or are somewhat discretionary. In a best-case
and worst-case strategies, he can also sell some owned equipment
and lease replacements to raise short-term cash. Executing a
strong backlog is obviously key.
The critical part of this is debt and cash strategy. A line
of credit has to be high enough to deal with his worst-case
conditions for receivables combined with his best-case condition
for payables. Without this, the sleepless nights and high blood
pressure he's suffering from will both continue.
Along with good analysis and reporting, what's needed is good,
old-fashioned cash management. He needs to talk with his customers
and understand if his receivables are in the category of "can't
pay," "won't pay" or "shouldn't pay."
Honesty
Face-to-face and eye-to-eye discussions are the best way to
deal with these problem customers. The same goes for your vendors
and subs. Let them know when they can expect to be paid. It
goes a long way if they understand your circumstances. And keeping
their services flowing when your cash is not is a critical part
of good relationships.
I have heard that in a crisis situation the three most important
elements of your business are market strategy, cash flow and
people. In construction contracting, market strategy and people
are difficult to change in the short run, but hawking your cash
flow is paramount in dealing with downturns in the business
cycle.
Have you looked at your cash flow statements lately? Good, realistic
projections are the prescription for a good night's sleep. My
friend in Virginia's sleeping patterns are about to get better.
Greg Hoyle is a Denver-based management consultant and principal
in The Construction Group LLP. He specializes in general management
issues and techniques that help contractors become more effective.
He can be reached at 303-759-3891.
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