Fall - InsideOutdoor Magazine

Back Office
Why Cash Flow is King
A strategy for driving sales profitably
By Tracy Eden
One of the biggest financial
mistakes many small business
owners make is focusing too heavily
on profitability at the expense of
cash flow. There’s an old saying that
sums it up well: “Profit is Queen,
but cash is King.”
This is especially true in the
post-financial-crisis world that
continues to linger, with economic
growth remaining tepid and most
banks still reluctant to loosen the
purse strings. Unfortunately, many
small businesses that were enjoying
record profits, at least on paper,
back before the financial crisis hit
didn’t have sufficient cash flow to
see them through the downturn.
Regardless of where your small
business stands today, it’s critical
that you understand the difference
between profit and cash flow. Doing
so may be the difference between
whether your business survives,
much less thrives, in today’s challenging
business and economic environment.
Understanding
the Cash Flow Cycle
If sales were made “cash on the
barrel,” then cash flow wouldn’t be much
of an issue. You’d sell your product, collect
payment at the time of sale and deposit
your cash in the bank. No fuss, no muss.
But that’s not how most small
businesses operate. Instead, most
operate on what’s known as a cash
flow cycle, which is the time between
when cash is paid out (for raw materials,
equipment, salaries, etc.) and when
accounts receivable are collected from
customers. For a manufacturing business,
the cycle usually works like this:
• Cash is used to buy raw materials.
• Raw materials are converted into
finished goods.
40 | InsideOutdoor | Fall 2011
• Goods are sold and accounts
receivable are generated.
• Accounts receivable are collected
and converted back to cash again.
A simple example helps show what
a lack of cash flow can do to what
appears, at least on the surface, to be a
thriving small business:
XYZ Company launched with
$100,000 of cash on hand and a hot new
product. The product was so popular, in
fact, that it flew off the shelves during
the first few months of operations, and
the owners were reaping profits right out
of the gate—at least on paper. Buoyed
by their success, the owners opened a
second manufacturing facility to increase
production and sales even more.
Six months after starting production,
sales were still booming, averaging
about $50,000 a month, and the profit
margins remained healthy. But a
problem was looming: the owners
discovered that, rather than
collecting accounts receivable in 30
days like they had projected, it was
taking closer to an average of 60
days. And a few customers were
taking as long as 90 days to pay
their invoices.
From here, the dominos quickly
started falling: the company fell
behind in paying its suppliers,
which soon refused to ship raw
materials. Without materials to
manufacture more products, sales
soon plummeted. And when
it started missing payroll, key
employees walked out the door.
Less than one year after opening
with so much potential, XYZ
Company shut its doors – another
victim of the destructive effects of
a lack of cash flow.
Commercial
Financing Alternatives
In a perfect world, small businesses
would be able to access a bank line of
credit to provide the working capital
they need to see them through cash
flow shortfalls like the one experienced
by XYZ Company. But in the current
economic environment, many
companies that would have qualified
for bank financing a few years ago no
longer meet banks’ more stringent
underwriting guidelines.
Instead, many are now turning
to alternative financing vehicles to
provide the financing boost they need
to manage their cash flow cycle. These
alternative financial vehicles include
factoring, accounts receivable (A/R)
financing and asset-based lending.
With factoring, small businesses sell
their outstanding accounts receivable
to a commercial finance company