Cash flow – the lifeblood of business

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In a recession, businesses need to be resolute in cutting out waste and un productive expenditure. If you can’t eat it don’t grow it. If activities to do not demonstrably contribute to creating income, why are they being done? For small businesses, resources are more limited than in large companies so it is important that they are used effectively to actively contribute to income generation. Small businesses are of necessity run as lean organisations with minimal staffing. They also have an advantage over larger organisations, in that they tend to be more flexible and adaptable, having shorter lines of communication within the business, enabling faster adaption to meet changing circumstances.

The key to any business success is the level of income, which ultimately depends on the ability to sell to customers who are willing to buy. The level of income depends on the number of customers that accept the product price and delivery package. Satisfying customer requirements efficiently and profitably, while ensuring that cash flow is sustainable, is essential for the long-term success of every business.

The accounts balance sheet is of major significance for large companies, in that it shows its solvency in its ability to pay creditors from its assets if the need should arise. For smaller companies, especially those started within the last twenty years or so, the balance sheet has less importance, because the business will have minimal assets. The nature of the modern office and IT equipment means that it is often more economically attractive to lease offices and equipment rather than buy them, which reduces the asset value on the balance sheet. In addition, leasing contracts often have the attraction of providing for regular updating of equipment, thus avoiding problems of equipment obsolescence and disposal. For most small and medium sized businesses, the profit and loss account with its ability to monitor the cash flow for the business, has greater importance than the balance sheet. Maintenance of cash flow of profitable income, is therefore one of the primary responsibilities of the commercial manager. In order to improve cash flow commercial managers need to seek ways to:

1. Increase suitably qualified enquires by ensuring that sales material is easily understood to potential customers
2. Improve conversion rates by ensuring that sales staff know how to close a sale.
3. Increase order size in order to increase income value and reduce processing costs by considering the use of incentives for increased orders.
4. Reduce credit days by early settlement discounts or other incentives.
5. Seek to maximize credit with suppliers.
6. Seek ways to minimize the cost of sales calls and customer contact without damaging the customer relationship.
7. Reduce the volume and value of bad debts by use of pro-forma invoices with customers with poor payment history.
8. Consider the potential advantages and disadvantages of invoice factoring.

Whether a business is large or small, its long term future will depend on the amount of income it makes and the amount of profit it retains. Brand names and logos may help to produce the image of a product or service, but it is the commercial managers who have the responsibility for producing profitable income. As managers, their performance should be measured on the amount of profitable income they produce, not on the questionable value of an intangible asset such as a brand name.

The main responsibility for all commercial managers in both large and small businesses remains the maximizing profitable income for their long term future, with the minimum use of assets and investment. It follows that the performance of commercial managers will be measured on to their contribution to the Profit and Loss account of their respective businesses, in terms of the amount of profitable income they produce and the efficiency with which they produce it, rather than on a “brand valuation” on the Balance Sheet. Especially in small businesses, small changes can yield bigger results in profits, particularly when margins are small.

From the example below it is easy to see the cumulative effect of a 1% increase in volume and price, with a 1% cut in variable costs results in almost 25% increase in profits. However care must be taken when prices are cut because there has to be a disproportionate increase in volume to offset the negative effect on profitability.

Starting Situation Cost Reduced Prices Raised Sales increased
By 1% By 1% By 1%
Sales £100.00 £100.00 £101.00 £102.00
Cost of Sale £50.00 £49.50 £49.50 £50.00
Gross Profit £50.00 £50.50 £51.50 £52.00
Overheads £40.00 £39.60 £39.60 £39.60
Net Operating Profit £10.00 £10.90 £11.90 £12.40
Increase in Profit 0.00% 9.00% 19.00% 24.00%

While in some businesses, commercial managers may be involved in building the “value” of their Brands as intangible assets, the main responsibility for all commercial managers remains the maximizing sustainable profitable income. While profits are essential for the long term future of every business, cash flow is the key to recession survival.

© N.C.Watkis, Contract Marketing Service 11 Jan 23

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