Management - Solve Cash Flow Problems

5 Steps For Climbing Out Of The Money Pit

Cash Flow IssuesMike Michalowicz believes there’s one common denominator among small businesses that suddenly find themselves in a cash flow crunch: “They don’t address it proactively. The biggest mistake is that it’s reactively addressed,” says Michalowicz, author of Profit First and founder of Profit First Professionals.

Trying to tackle financial problems after the damage has already been done can then lead to issues on the customer side, as well as on the supplier side.

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“Business owners panic or get frustrated with the money not coming in, and that’s when they take action, and usually when it’s a reactive call, it’s a confrontational call, so reaction results in confrontation,” Michalowicz says. “You’re getting your money late and you’re disrupting your relationship by being reactive, not proactive.”

What can you do to get yourself out of that cash flow hole, and ensure that you don’t fall into that pit again? Here’s some guidance from experts.

Review Current Costs
One of the best ways to increase your cash flow is to decrease your expenses, which involves taking a good, hard look at the way you spend your money. “The top mistake that small-business owners make is to invest and spend to excess,” says Steve Cody, cofounder and CEO of marketing and communications firm Peppercomm.

Cody thinks timing is crucial – he’s seen many companies fall into the trap of over-investing in overhead and employees when business looks like it’s about to boom.

“Obviously you want to stay ahead of the curve,” he says, “but on several occasions, we’ve gone on the word of a client that they’d be dramatically expanding their budget, and made the mistake of hiring five or six people to expand the account accordingly. The promise was never kept, and we found ourselves looking to immediately downsize those people.”

When this happens, Cody insists business owners will have some hard but necessary calls to make – which is why it’s crucial to make those decisions before the cash flow situation becomes desperate. “I’d look at what other overhead cuts might be possible, including moving to a smaller office location, renegotiating relationships with vendors – and worst case, reducing head counts,” he says.

Communicate About Payments
If clients are contributing to your cash flow problems by not paying you on time, Michalowicz says it’s time to speak up. “It all boils down to communication. You have to reach out to the customer, explain your billing structure and see if it’s agreeable to them. If you tell them why, you’ll be shocked with how many people comply with it,” he says.

Cody believes distributors must not shy away from this discussion with delinquent clients. “When we were starting out, we were a little hesitant,” he says. “Would we jeopardize the relationship? But it should be a two-way street, and clients should respect the relationship, so don’t be afraid to ask to be paid. You’re providing valuable services and you deserve to be paid for them.”

Cody thinks this conversation is always easier with a preexisting relationship with accounts-payable decision-makers. “Your CFO or your top financial person should have a relationship with whoever’s paying the bills on the client’s side,” he says. “We make a big point of making sure the two know each other in advance, so when a client is late, we don’t necessarily have to force our account manager to put pressure on their CFO or the CEO.”

What’s the right timetable for making payments due? Michalowicz says that should be determined on a case-by-case basis. “Thirty days might not work for you. While there are industry standards, you have to see what your customer expects and thinks is fair,” he says. “Ask kindly, but explain to your client and understand yourself that if you’re not treating yourself fairly with cash flow, you might not be in existence for very long.”

Get Money Upfront
Cody recommends obtaining a deposit from customers for orders in the five- and six-figure range in order to ensure that the client isn’t simply using you as its bank –especially if that client is a new company.

“If you’re going to be working with a startup organization, you absolutely want the first month’s fee upfront before you start work, because we certainly have been burned by startups,” he says. “You can get three or four months into working with a startup, and the startup will call you back and say, ‘Sorry, we’ve run out of funding, we’ve got to stop doing everything right now.’”

Here again, it’s important to have frank conversations earlier, to avoid drama later. “The financial relationship is equally as important as the strategic plan that you’re going to be implementing,” Cody says. “That’s part of a client’s responsibility: treating an agency as a partner and not as a vendor.”

Consider Renegotiating with Vendors
Holding honest discussions with suppliers about finances is often another key component to resolving cash flow concerns. “It’s just as important to have the conversation at the beginning of the relationship with the vendor as it is at the beginning of the relationship with the client,” Cody says. “After terms are agreed upon, the vendor has to know we’re only as healthy as our clients enable us to be healthy.”

Cody says distributors shouldn’t necessarily look for the cheapest supplier partner, but they should also look for one that is willing to provide discounts. “Say we lost some business and we need to cut expenses. We may be back in touch with them to renegotiate an extra 2% discount,” he says. “We say we try to avoid that because we want a long-term relationship with a vendor, but we are also very transparent.”

Cody suggests looking at two or three of the top vendors for any particular product or service and letting them compete against one another. Explain you’re not seeking the lowest costs, but a willingness to be flexible.

Another way to get a discount is to fast-track payments with existing suppliers, provided you’re in good financial standing. “If you don’t like the client that takes 90 days to pay you, your vendor won’t like you if you take 90 days, even if you negotiated. They may favor those who pay them quicker,” Michalowicz says. “You may get discounts if you pay even faster, and look for opportunities there first before you look at delayed payments.”

Avoid Additional Debt
While the immediate temptation during tough financial times may be to increase your credit line with a bank, Cody believes distributors should generally resist the urge to do so. “For me, it would be a last resort,” he says. “You’ve got to sit down with your accountant and get solid advice from him or her, but I’d hate to advise any small businessperson to go deeper into the hole in terms of money owed.”

Michalowicz says credit lines are tied into an inherent behavioral tendency known as Parkinson’s Law. “It states that it’s human nature to use what’s made available to us,’ he says. “The more food we put on our plate, the more we eat. The more toilet paper on the roll, the more we use. The same is true with money. A line of credit really has permanence, and once it’s available, it now becomes a crutch, and crutches are very dangerous.”

One instance in which a line of credit may make sense, according to Cody, is when you simply need capital to fulfill a large order. But even in that instance, Cody urges caution. “I’ve been burned, and I’m sure everyone’s been burned, by a verbal approval,” he says. “But if you have something in writing, then getting that additional cash makes a whole lot of sense.”