The Financing Challenge - Part 3: Healthy Cash Flow Practices

Ever wonder why farmers in remote areas accept to sell their vegies or fruits to middle men instead of paying for storage in a cold storage facility to get a higher value after? Ever wonder why a person would pay 50% interest to get money from a loan shark? The answer is CASH! They have bills to pay and those people have ready cash for them!

Among the criteria financial institutions consider to give loans to businesses is a key one: CASH FLOW. Paying keen attention to how and when money gets into and out of the company is very important for every business, particularly startups and small businesses. Yet, most entrepreneurs and business owners are not focused enough on cash flow management.

Experts recommend that the things to do in a small business to remain viable after sales and marketing are:

• Invoice quickly and get payments for your sales as quickly as possible
• Pay your bills as late as possible
• Control the amount and value of materials and finished goods (inventory) you carry in stock

Can you survive without managing your cash flow? MAYBE! Can you grow without managing your cash flow? NO! So any business with the ambition to grow must have a clear understanding and plan for managing its cash flow.

This is very important for all entrepreneurs and businesses, particularly those in the pre-revenues and early revenue stages. As part of penetrating the market, they are usually very generous on terms which make a lot of sense since they lack bargaining power, but keeping an eye on cash flow constraints and cash burn rate will tell you when to stop.

Last Thursday, I sat through entrepreneur pitches for investment, and two things hit me:

• None of them had their cash flow forecast on their presentation
• All of them asked for money payable over a period of time (3 years for the majority) at an interest rate that varied between 15 – 18.5% in local currency

I remember one of the judges insisting he would like to know the burn rate of one of the entrepreneurs, and his ability to generate enough cash to stay through to the year when he is supposed to payback investors' money. Savvy investors and financial institutions will always want to know how well you are doing on cash, and what your cash forecast looks like.

Also, as much as possible, do what it takes to keep cash in your business except you can ascertain that you have enough or don’t have a choice. In the second point of offering interests payments particularly for a startup, these cash-needy and cash-strapped entrepreneurs were creating opportunities for money to leave their business with the payment of interests just because they want to maintain 100% ownership. I always say, 20% of something is better than 100% of nothing. There is a 60 - 20(25) - 20(15) rule I like to recommend to entrepreneurs who have a growth perspective. 60% share of the business to yourself (can go to 55%) - that is if control is your big concern. 20 – 25% to investors, this way they have a stake in the business and will take interest in making sure it succeeds and grows, investing beyond just money. 20 (or 15%) for employees, so that you can get experienced high profile people into the business without necessarily shelling out lots of cash, but giving them a stake in the business

Look for all healthy ways of generating and keeping more cash in your business:

Plan and use project management discipline so that you know before hand when your biggest cash inflows and outflows will happen, that way you can take pre-emptive measures to avoid strain

Keep a cash flow rolling forecast of ideally three months as a minimum

Review, review, review on a regular basis and set alert thresholds in your system – if you can automate the better. This way you know whether you have enough cash to fulfil your obligations in the month(s) to come, and can act accordingly.

Optimise your inventory – do you need that much inventory at this point in time, or can you make a bulk order commitment to push price down, but delivered piecemeal with cash payments as closest as possible to delivering, if not on delivery

Co-purchase with other small businesses so that you can bargain for better payment terms as a group

Be savvy with trading terms (credit/debts) – manage your payables and receivables. Pay as late as possible, and get paid as early as possible. This is a fine balancing act though; you have to be cautious, it may give you a bad reputation and you may be blacklisted, so be tactful and don’t upset your partners in the process, particularly the big guys

“Make payments easy for customers”, they should not go through a lot of hassle to give you your money. Thank God in the case of Africa, mobile money has extended access, you can get paid from anywhere, so make good use of it.

Be lean and mean (NOT cheap) – only what is necessary should be done and/or paid for, and usually just-in-time, except there is an upside in doing so before time. Also, don’t pay more than you should, but strike a price-quality balance

Know your market – if you don’t understand what is happening in your market or what is available, for sure you will pay more than you should, will pay earlier than you could have bargained for, etc. Also if you don’t know the common practice of your competitors, then you may successfully get cash in but because your terms are short and not flexible, you customers may switch-out.

Build relations and be proactive in communicating your cash flow mishaps. “Shit happens”, so no matter how good you will get in controlling your cash flow, you may find yourself in the red one day and unable to honour your payables as agreed. Talk to your partners well in advance, don’t go into hiding or avoid answering your calls :-)

Prioritise payments and expenses even after you have been lean and mean.  Let those payments that can make your business grind to a halt be on the top of the list, like payroll, operating taxes, etc.

Incite customers to pay faster for a discount if you can afford. Eg. if you pay cash, you pay $500 less, if you pay within a week $300 less, etc. Endeavour to balance this with the cost of various financing sources in the market so that you don’t give away more than it would cost you to get money from elsewhere.

Have a specialist accounting or finance management person on board or on a commission-based contract (outsourced) to keep an eye on this so that you keep going with developing the core business concept

Try cashless payments where possible. Trade-by-barter it was called in those days. This is not a common practice today, but you can find the rare opportunity to make it happen

Bank your excess cash and not let it lie unused around you and your teams. As a discipline, put your cash in the bank on a daily basis. The beauty is that mobile money has made this easy; you can cash-in any time. Also, if you can find short term high-yield placement opportunities for your excess cash, and you feel you understand the ins-and-outs, go for them, just make sure you don't tie up your cash for long.

I wanted to keep this as layman as possible. I don’t expect it to be a comprehensive list of tips, but hope it reinforces the importance of being very aware of how much liquid cash your business is generating, will generate, needs, and will need at all times. Don’t be fooled by net profit or net income, this is just an accounting exercise on paper! On the contrary, cash is real, like blood in your veins. When you are short of blood, your death is not far, so too it is when your business is short of cash, no matter how big the profit is. After all is said and done, experienced people always say “show me the money”, be like them.

Of course, the longer you stay in the business and build your connections and reputation, the easier it will be for you to play with cash to your favour at reduced costs. Again, build your financial literacy, and follow those who are good at it or are doing better than you. Also, proper planning of your cash requirements, in the case of seeking capital from investors, prevents you from going through so many investment rounds which may lead to share dilution making your business less attractive for those already on board, and putting you at risks of losing your position of majority shareholder.

Thanks for reading, and come back next week when we will focus on Getting Financing, What the Experts Say!  It will be our 4 post in this 5-part series on the Financing Challenge

Also, remember our recommendation from Azems Value Add if you have chosen to start your entrepreneurial journey: Start from where you are and  never forget "Small will always be Big"