How liquid is your business?
1st January, 2015
How long can your business hold its breath underwater? Two weeks, a month? How about as long as three months?
Running a business is like sailing a boat on the ocean, except your business must be kept afloat on a sea of liquid cash. Your business needs to be liquid enough to remain buoyant and stay smooth sailing. How long can your business keep paying the bills if the liquid cash keeping your business afloat suddenly turns into a desert of sand?
Here are four quick strategies to ensure your business is liquid enough to ride out any cash flow drought.
1. Stash some cash
Like a squirrel getting ready for winter, stash away some cash for that day when it doesn’t rain — when your sales take a dip or dry-up. Having a cash reserve is an essential buffer if you are to remain liquid. I tell my business clients to store away or at least have access to cash reserves so their business can operate for at least three months.
How much do you need in reserve? It’s simple, just work out what essential fixed costs — like rent, wages, electricity and loan repayments — your business needs to pay in a month, and then build cash reserves to reach this target (or multiply it by three for three months in reserve). In business, there’s no social security safety net to fall back on when cash dries up. You need to build that liquidity safety net yourself.
2. Check the lifeboats in port, not while at sea
When business is good, and you’re making hay whilst the sun shines, be more cautious and vigilant with your liquid reserves. Many business owners have come unstuck in the bad times because of the poor decisions they made in the good times.
They buy expensive cars, invest in slow moving stock and expand their business beyond its current needs. When cash dries up, they’re stuck with assets that lose their value and levels of stock they can’t liquidate. When cash flow is good, be more cautious, and implement the following:
- Have a strong cash flow budget and monitor it weekly.
- Turn over your stock quicker; don’t invest in specialised, slow-moving stock.
- Squirrel away any extra cash into a reserve, like your home loan.
When your business starts to sink, it’s too late to run to the lifeboats to check if they are enough to save you. Take a proactive approach to manage your business liquidity.
3. Get paid upfront
I’m still amazed at the number of business owners I meet who still spend most of their day chasing money they are owed by their customers instead of growing their business. It is a huge distraction and time thief for all business owners. Don’t fall into the trap of thinking your business is liquid because it has plenty of debtors that you can call to get your money in.
I once had a business client who had over $1 million owed to him. While his debtors are classified as a current asset, there was nothing ‘current’ at all about his them — over 80 percent of them were over six months unpaid. Debtors are not liquid until they pay you, so get paid and get paid early. Do the following:
- Shorten your payment terms; after all, it’s your business, so your rules
- Get paid upfront. Ask for a 50 percent deposit or credit card imprint before you start to fill a customer order
- Get 100 percent upfront for all ‘walk-in’ work. After all, a walk-in sale can just as quickly ‘walk out’ without paying you
- Don’t deliver anything until the final payment is made
These are just a few strategies I use in my business, and we have debtor days of less than seven!
4. Keep many eggs in many baskets
Recently one of my business clients just realised how illiquid his business really was. His business was smooth sailing until he lost a long-term customer who was 40 percent of his annual sales. With this large customer gone, the bills mounted up, and his ocean of cash flow turned very quickly into a desert of despair. While it’s great to have large customers paying you a lot of money, the impact on business liquidity can be significant — even fatal — if you lose a major client.
So, look at your customer base now. How would your sales and cash suffer if you lost your biggest customer? Is your business diversified across a number of products and services in different industries so it can cope with an industry-specific downturn? Maybe you’re too dependent on that one big government contract or corporate client. Be nimble enough to adapt when the market shifts and buying patterns change (and they will).
Making sure your business remains liquid is a constant process. Build up your cash reserves, constantly monitor your stock levels and get paid upfront by your customers. If you follow these simple strategies when the skies are clear and the ocean is calm, then your business will weather the worst of storms.