Part 1: Why Cash Flow Is More Important Than Ever Before

As COVID-19 rampages through the global economy, many businesses are trying to weather the storm. Several businesses have shut their doors in the name of public health, and others that remain open have seen a staggering drop in revenue as their former customers stay home. For others, some businesses have been able to quickly adapt and are even booming.

Nobody knows just yet how long this crisis will last, which leaves many businesses vulnerable. Even companies with solid disaster plans are finding themselves caught off-guard by the sudden and massive economic disruption. For business owners looking for guidance, the best thing you can do to survive a crisis is to take control of your cash flow — if you run out of cash, your business fails. It’s that simple.

If you find your business in crisis, there are steps you can take to minimize the damage. Analyzing your current situation, optimizing your payments, and reducing your cash to conversion cycle are three ways you can help your company make it through this uncertain business cycle.

Know Where You Stand

Understanding the full picture of your current situation is critical for managing your company’s cash flow. Start by reviewing your expenses, such as payroll and benefits, marketing costs, research and development, cost of goods sold, and any other general expenses.

Next, track the timing and amounts of cash inflows and outflows. Cash inflow happens when you get paid from customers purchasing your product or service, loans and borrowing, and asset sales. Cash outflows are payments you make, such as payroll, facilities expenses, and payments on debts.

Then, take a look at your bank balance and get the answers to the following:

How much cash is in your account?
Are you expecting any accounts receivable in the next week?
How much is due for accounts payable?
Are there any outstanding payments that haven’t cleared?

Conversely, if you are one of the businesses is weathering the storm successfully and experiencing high growth as a result, we still can’t stress the importance of knowing and understanding where your cash is flowing in and out of your business. If this goes unmanaged properly with the right processes and controls, you can find yourself in a challenging situation, especially as the banks become more conservative.

Review Reports Weekly

After you know your company’s cash status, the next step is keeping tabs on your financial situation with regular reporting. Consistent and accurate reporting gives you visibility to forecast future revenue and ultimately improve profitability.

If you typically generate monthly reports, consider shortening the duration to weekly during a crisis. The more often you review the numbers, the faster you can react to any swings in the market.

Look at your income and cash flow statements to create a projection, and combine this with key metrics from your balance sheet, such as:

DIO (days inventory on-hand)
DSO (days sales outstanding)
DPO (days payables outstanding)

Next, take a look at your expenditures. Record the amount your company pays for capital expenditures, debt repayments, and other operating expenses. As you’re recording this information weekly, pay special attention to how actual results differ from your projections. Analyze the differences and use your findings to refine and improve the accuracy of your forecasts.

Get a Handle on Payments

Your business has both short-term and long-term obligations that impact your cash flow. Short-term commitments are what keep you operating each day, such as payroll and inventory. Long-term commitments are typically capital investments and debts.

As you review your weekly reports, make sure your incoming funds exceed your outgoing obligations. If they don’t, look for ways to cut your expenses. Having funds that exceed expenses will ensure your otherwise profitable business has the cash on hand it needs to handle this and future crises.

Triage Accounts Payable

If you’re struggling with cash flow, the first order of business is to limit the amount of cash that goes out the door. Review your accounts payable and determine which invoices are most important.

Pay your invoices in order of priority, with the most critical payments going out first. Next, communicate with your vendors and try to negotiate new payment terms. If you’ve been a loyal client, you may find your vendors are willing to extend some flexibility.

Maximize Accounts Receivable

In addition to increasing sales, you can optimize your accounts receivable to boost your short-term cash flow. If you send out invoices on a set day each month, try sending them out early. Even if your payment deadline remains the same, your customers may wish to send in their payments in advance — adding an infusion of cash.

Another option is to encourage your customers to pay early. Consider creating incentives for early payment, such as a credit for future months or extra services.

You could also turn to technology for help. By delivering invoices electronically, you can shorten the time between billing and collection. You may also want to implement a vendor portal, which gives your vendors electronic access to view their invoices, make payments, and it streamlines communication.

As a bonus, new technology solutions also typically provide timely and robust reporting that arms you with the information you need to proactively resolve delinquent accounts or take full advantage of any discounts.

Optimize Operations

After reviewing your accounts payable and accounts receivable, look for efficiencies within your finance department. Implement new practices to reduce error rates on invoices and make sure collections are followed up upon promptly. Your team should also make sure you’re receiving all available volume rebates and trade spend initiatives.

Regularly review your supplier contracts and look for opportunities to negotiate more favorable terms and rebates. Benchmark your agreements against others in the industry and make sure they meet established standards.

Streamline Your Cash Conversion Cycle

Businesses with strong cash flow management policies and procedures in place typically have a shorter cash conversion cycle (CCC). The longer your CCC, the more working capital you’ll need to manage your operations. The shorter the CCC, the more manageable your cash flow through current operations.

Knowing this number will help you understand how long it takes to bring in cash. Knowing where you stand is the first step to improving your situation.

To calculate your CCC, use this equation:
Cash Conversion Cycle (CCC) = DIO (Days Inventory Outstanding) – DPO (Days Payable Outstanding) + DSO (Days Sales Outstanding)

One of the fastest ways a company can reduce its cash conversion cycle is to turn over inventory faster. It’s simple math. The quicker a business sells goods, the sooner it receives the cash influx from sales. Analyze your accounts and product offerings to identify products and services that aren’t profitable and reduce any slow-moving or obsolete profits so you can reduce your inventory.

For items you plan to discontinue, consider cutting your losses — even if it means selling them at a substantial discount. Selling these items at a loss will still bring in cash that can help you through a disruption.

You may also consider adopting a just-in-time strategy for inventory management. With this approach, supplies are delivered as they’re needed, instead of weeks, or even months, in advance.

One word of caution: If you’re adjusting your supply chain strategy, consider the cash-flow implications before making any changes.

For example, if your company sources products from low-cost countries, your price may be lower on a per-unit basis. But, you may also need to purchase a higher volume or stock up earlier to account for longer shipping time.

If you switch to a more local supplier, you may pay more on a per-unit basis, but you can purchase a lower volume of product on an as-needed basis. The ideal strategy depends on your company’s unique product mix, clientele, and financial situation. Make sure you understand the implications of each approach to make a more informed decision.

Make It Through Uncertain Times

How your business makes it through the COVID-19 crisis depends directly on your cash flow. Understanding where your business stands, streamlining your accounts payable and receivable, and reducing your order to cash cycle will give you the best possible chance you have to make it through these uncertain times.

If you need additional help with cash flow management, including developing detailed financial projections, reducing your order-to-cash cycle, or strategic disaster planning, contact Signature Analytics.

Our team of accounting and finance experts has a wealth of knowledge and experience in a variety of industries so that we can provide the best level of expertise and service to support your business during these trying times.

Part 1: Why Cash Flow Is More Important Than Ever Before