April 19th, 2008 | 
Author: 
Laura Walker asked:
Recession or not, cash flow is vital to the survival of any business. The balance of cash coming in and going out is influenced by many factors, all of which should be carefully controlled. Your business might have sales and profits, but that doesn’t mean the checking account has enough cash to do business. One of the most common reasons for business failure is poor cash flow management.
If you have a business plan, get out your cash flow projections and make sure they are up to date and that they forecast through the next 12 months. If not, you can still implement the cash flow strategies discussed in this paper while you write your business plan (see part one of this series, Business Planning for Recession Survival and Recovery). Make sure that you document your assumptions, which should be based upon realistic sales projections, so be conservative with your calculations. It’s best to be surprised with better results than you expected than to be disappointed if you fall short.
The following are some strategies to keep your cash flow from freezing up during this recession.
KEEP A CLOSE EYE ON YOUR CASH
It’s easy for a small business to lose track of cash flow when all hands on deck are busy making sales and providing products and services to customers. Unless someone is dedicated to invoice, collect, and monitor customer payments on a daily or weekly basis, business will seem fine and good until it’s time to pay the bills. In business to business transactions, sales don’t necessarily equal cash money in the bank.
If you don’t already have a computerized accounting system like QuickBooks or Peach Tree, get one…NOW! It is essential to be able to update your cash balance on a regular basis and I don’t know of an easier way to do that than computerized bookkeeping. A few hundred dollars for the software and a little time studying an instruction manual could be the difference between head above or head below the water.
Tim Berry’s blog “10 Critical Cash Flow Rules,” on Entrepreneur.com has great advice on this subject. I especially appreciate his instructions to “Watch these three vital metrics: ‘Collection days’… ‘Inventory turnover’… ‘Payment days.’” These are all indicators of your cash flow health-the higher those numbers, the higher the fever.
STAY ON TOP OF ACCOUNTS RECEIVABLE
Unfortunately, in this time of recession, many of your customers may not be doing as well as you are and can’t pay their bills on time. It’s tough for everyone, but with those invoices sitting unpaid in accounts receivable, your business won’t be doing well for very much longer. You’ve got to dedicate some energy to collecting those payments as soon as they’re billed.
If you offer a one or two percent discount for early payments made within 10-15 days of invoicing, there’s a good chance your customer might pay when your product or service is still fresh on their mind. Plus, a lot can happen in 30 days that may increase the likelihood of delayed or defaulted payment. If discount incentives don’t work and the payment goes past the due date, you’ve got to put some pressure on the late-payers.
Here are a few collection tactics you can take to get paid while keeping your customer relationships in good order. Let your customer know that you value their business and understand their situation, but in order for you to continue to provide your product/service, you need their payment ASAP. After frequent friendly phone or email reminders (no more than once a day), send a registered letter stating that payment arrangements must be made right away regarding the overdue balance. Negotiate installment payments, but do not continue to provide product or service until the balance is paid in full. If it benefits you, offer to trade products or services for all or part of the invoice amount. If they still don’t pay, inform them that your attorney or collection agency will be handling the issue. Lastly, be prepared to take the matter to court. If the balance owed to you is great enough to justify the cost to sue, then sue. After they have paid, let them know that you wish to maintain a positive relationship, but they must now pay with cash or credit card upon receipt of your products or services. If you lose a customer over a late or unpaid bill, then they probably weren’t worth the trouble anyway and be grateful they’re gone.
For more information on this topic, please read this helpful Business Week article by John Tozzi, “Collecting Money in a Bad Economy.”
PROTECT YOURSELF
Sorry to state the obvious, but all fulfillment and payment terms should be clearly outlined in writing and agreed upon with a signature before any work is commenced. Part of your terms and another way to increase cash flow is to require an upfront deposit or retainer fee with the balance due upon receipt or soon thereafter.
Depending upon the nature of your business, you may not want to offer payment terms to new customers until they have established a payment history with you. It’s vital that you do your due diligence on customers seeking credit to make sure they don’t have bad payment history or outstanding debts to other vendors. Ask them for credit references and call their vendors to inquire about their reputation.
You must protect your own credit as well, both your personal and business credit. If you have blemishes on your record, it may be difficult or impossible to setup terms with your vendors. As a small business owner, you will find that your personal credit is also considered when applying for loans or other forms of financing. Although it is imperative to have good credit standing, and 44% of small businesses rely upon credit cards to finance their business operations, I do not recommend doing so.
The article “Credit Card Financing by Small Businesses Gets Crunched,” by Matthew Bandyk in U.S. News illustrates why you should avoid dependence upon credit cards as a form of financing your business. The practice of lowering credit lines and raising interest rates without notice is common during this recession, even for those with a perfect history of on-time payments or pay off the balance each month. It’s important to have more than one source of working capital at your disposal, but only if you have absolutely no other options, use credit cards very sparingly and pay of the balance every month.
Establish credit with your vendors to help free up available cash, but be sure to pay close attention to your payment schedule, so as not to fall behind and tarnish your credit. An optimal cash flow situation is to receive immediate payment from your customers and use the full length of your credit terms with your vendors, but if you can afford to take advantage of vendor discounts by paying early, do it. Not only will you save money, but you’ll build credibility with your vendor and possibly be able to negotiate better terms later down the line when you may really need it.
AVOID MORE DEBT
For some reason, the majority of Americans think that debt is the only way to fund our lives or our businesses. Not so. Debt is an institution that often keeps us one step behind success or “the American Dream” because debt is very expensive. There are other ways to live and finance a business without the hindrance of increasing monthly debt expense.
Loan repayments barely chip away at the principle and really only satisfy the interest that prolongs your servitude to the debt holder. To me, a lender-debtor relationship is much like a master-slave relationship. Even though the lender may not be standing over you, ordering you to run your business in the manner they dictate (which may happen in some cases), you have obligated your business and its assets to the lender. That is not a healthy burden to bear, especially when businesses are more vulnerable to failure during a recession.
Most businesses carry some form of debt, which could mean doom if something were to go wrong. A business with very limited or no debt is better equipped to handle a small setback with ease, bouncing back after a few minor adjustments. Businesses that rely upon loans find that a small setback can easily snowball into disaster. If you’re interested in finding out how to get out of debt completely, check out Dave Ramsey’s My Total Money Makeover website for a plan that works for businesses and individuals.
SELL ASSETS YOU DON’T USE OR NEED
If you have equipment, vehicles, inventory, real estate, or anything else of value that isn’t essential to your operations or short-term growth plans, sell off your unnecessary assets. Rather than borrow against those assets for working capital while they depreciate in value and you pay exorbitant amounts of interest, sell them. It’s a debt-free way to infuse cash into your business.
EXPLORE ALTERNATIVES TO TRADITIONAL FINANCING
The bank is not the only source of funding for your business. This recession and the rising number of defaulted loans have spooked lenders into tightening their requirements. Many small businesses with less than perfect financials don’t stand a chance of getting financing; even SBA-sponsored loans have conditional standards and impose strict guidelines.
Not everyone knows about accounts receivable factoring, or invoice factoring as a debt-free alternative to the usual methods of acquiring working capital. The way factoring works is a company sells its customer invoices to a factor at a discounted price. The factor advances up to 90% of the invoice value and then collects the payment from their client’s customer. The factor pays itself back for the advance, plus the agreed upon fee (usually 1-3%), then rebates the remainder to the client. In this manner a business can continue to offer credit terms to its customers, yet receive payment on invoices within 24 hours of delivering the product or service.
Many factoring companies provide value-added services that further relieve cash flow problems, such as accounts receivable and credit management, as well as collection and merchant account services. These features of factoring can help you with the cash management strategies outlined in this paper: keep a close eye on your cash, stay on top of accounts receivable, protect yourself, and avoid more debt.
THE HISTORY OF FACTORING
The principles of factoring date back 4,000 years to the dawn of trade and commerce during the reign of Mesopotamian King Hammurabi. This ancient Mesopotamian civilization is credited as being the “cradle of life.” They were the first to document a code of laws establishing a framework for business and government regulation. We also know that the ancient Romans, some 2,000 years ago, sold promissory notes at discounted prices and Roman merchants employed collectors to settle trade debts.
The common practice of factoring as we know it today started approximately 600 years ago, with its roots in what is now called the merchant banking industry. These factoring forefathers were Jews fleeing persecution from Spain to Italy. They purchased the right to sell a farmer’s grain at harvest in exchange for cash advanced during the planting season.
As widespread colonization in the 17th century demanded grain to be shipped abroad, early merchant bankers began advancing money against the delivery and payment of grain shipped overseas. Eventually, this led to the practice of buying and trading grain debt rather than the grain itself, which is probably where the practice of commodities trading began.
During the first half of the 18th century, as the American colonists began to produce cotton, furs and timber, the demand for these raw materials to be sent to Europe grew quickly. Unfortunately, bank financing was just as slow back then as it is now, and the colonists couldn’t afford to wait for the goods to be delivered across the Atlantic before they received payment. In order to ensure they had cash to fund their operations, factors advanced the money against these colonial account receivables. Thus, international trade markets were formed.
Eventually, by the 1930′s the primary industries still taking advantage of factoring practices were the textiles and garment industries in the United States, but the potential for further expansion was already underway. As the popularity of doing business through credit terms became more common, factors were able to finance many other businesses with invoice-based transactions.
When interest rates went through the roof in the 1970′s and 80′s, and banks tightened their lending requirements, the reliance upon factoring agencies took another leap forward. In the last decade, factoring has become an $80 billion industry in the United States alone with an annual growth rate of almost nine percent. According to the organization Factors Chain International, factoring services worldwide have experienced a growth rate of 100% in the last 5 years.
And with the sudden and drastic decline in the economy since the second half of 2008, businesses have been forced to reevaluate their operations. An even greater need for working capital and even slimmer chances of obtaining a bank loan have brought the factoring industry to the forefront of small and mid-sized business finance options.
Factoring Charges
Recession or not, cash flow is vital to the survival of any business. The balance of cash coming in and going out is influenced by many factors, all of which should be carefully controlled. Your business might have sales and profits, but that doesn’t mean the checking account has enough cash to do business. One of the most common reasons for business failure is poor cash flow management.
If you have a business plan, get out your cash flow projections and make sure they are up to date and that they forecast through the next 12 months. If not, you can still implement the cash flow strategies discussed in this paper while you write your business plan (see part one of this series, Business Planning for Recession Survival and Recovery). Make sure that you document your assumptions, which should be based upon realistic sales projections, so be conservative with your calculations. It’s best to be surprised with better results than you expected than to be disappointed if you fall short.
The following are some strategies to keep your cash flow from freezing up during this recession.
KEEP A CLOSE EYE ON YOUR CASH
It’s easy for a small business to lose track of cash flow when all hands on deck are busy making sales and providing products and services to customers. Unless someone is dedicated to invoice, collect, and monitor customer payments on a daily or weekly basis, business will seem fine and good until it’s time to pay the bills. In business to business transactions, sales don’t necessarily equal cash money in the bank.
If you don’t already have a computerized accounting system like QuickBooks or Peach Tree, get one…NOW! It is essential to be able to update your cash balance on a regular basis and I don’t know of an easier way to do that than computerized bookkeeping. A few hundred dollars for the software and a little time studying an instruction manual could be the difference between head above or head below the water.
Tim Berry’s blog “10 Critical Cash Flow Rules,” on Entrepreneur.com has great advice on this subject. I especially appreciate his instructions to “Watch these three vital metrics: ‘Collection days’… ‘Inventory turnover’… ‘Payment days.’” These are all indicators of your cash flow health-the higher those numbers, the higher the fever.
STAY ON TOP OF ACCOUNTS RECEIVABLE
Unfortunately, in this time of recession, many of your customers may not be doing as well as you are and can’t pay their bills on time. It’s tough for everyone, but with those invoices sitting unpaid in accounts receivable, your business won’t be doing well for very much longer. You’ve got to dedicate some energy to collecting those payments as soon as they’re billed.
If you offer a one or two percent discount for early payments made within 10-15 days of invoicing, there’s a good chance your customer might pay when your product or service is still fresh on their mind. Plus, a lot can happen in 30 days that may increase the likelihood of delayed or defaulted payment. If discount incentives don’t work and the payment goes past the due date, you’ve got to put some pressure on the late-payers.
Here are a few collection tactics you can take to get paid while keeping your customer relationships in good order. Let your customer know that you value their business and understand their situation, but in order for you to continue to provide your product/service, you need their payment ASAP. After frequent friendly phone or email reminders (no more than once a day), send a registered letter stating that payment arrangements must be made right away regarding the overdue balance. Negotiate installment payments, but do not continue to provide product or service until the balance is paid in full. If it benefits you, offer to trade products or services for all or part of the invoice amount. If they still don’t pay, inform them that your attorney or collection agency will be handling the issue. Lastly, be prepared to take the matter to court. If the balance owed to you is great enough to justify the cost to sue, then sue. After they have paid, let them know that you wish to maintain a positive relationship, but they must now pay with cash or credit card upon receipt of your products or services. If you lose a customer over a late or unpaid bill, then they probably weren’t worth the trouble anyway and be grateful they’re gone.
For more information on this topic, please read this helpful Business Week article by John Tozzi, “Collecting Money in a Bad Economy.”
PROTECT YOURSELF
Sorry to state the obvious, but all fulfillment and payment terms should be clearly outlined in writing and agreed upon with a signature before any work is commenced. Part of your terms and another way to increase cash flow is to require an upfront deposit or retainer fee with the balance due upon receipt or soon thereafter.
Depending upon the nature of your business, you may not want to offer payment terms to new customers until they have established a payment history with you. It’s vital that you do your due diligence on customers seeking credit to make sure they don’t have bad payment history or outstanding debts to other vendors. Ask them for credit references and call their vendors to inquire about their reputation.
You must protect your own credit as well, both your personal and business credit. If you have blemishes on your record, it may be difficult or impossible to setup terms with your vendors. As a small business owner, you will find that your personal credit is also considered when applying for loans or other forms of financing. Although it is imperative to have good credit standing, and 44% of small businesses rely upon credit cards to finance their business operations, I do not recommend doing so.
The article “Credit Card Financing by Small Businesses Gets Crunched,” by Matthew Bandyk in U.S. News illustrates why you should avoid dependence upon credit cards as a form of financing your business. The practice of lowering credit lines and raising interest rates without notice is common during this recession, even for those with a perfect history of on-time payments or pay off the balance each month. It’s important to have more than one source of working capital at your disposal, but only if you have absolutely no other options, use credit cards very sparingly and pay of the balance every month.
Establish credit with your vendors to help free up available cash, but be sure to pay close attention to your payment schedule, so as not to fall behind and tarnish your credit. An optimal cash flow situation is to receive immediate payment from your customers and use the full length of your credit terms with your vendors, but if you can afford to take advantage of vendor discounts by paying early, do it. Not only will you save money, but you’ll build credibility with your vendor and possibly be able to negotiate better terms later down the line when you may really need it.
AVOID MORE DEBT
For some reason, the majority of Americans think that debt is the only way to fund our lives or our businesses. Not so. Debt is an institution that often keeps us one step behind success or “the American Dream” because debt is very expensive. There are other ways to live and finance a business without the hindrance of increasing monthly debt expense.
Loan repayments barely chip away at the principle and really only satisfy the interest that prolongs your servitude to the debt holder. To me, a lender-debtor relationship is much like a master-slave relationship. Even though the lender may not be standing over you, ordering you to run your business in the manner they dictate (which may happen in some cases), you have obligated your business and its assets to the lender. That is not a healthy burden to bear, especially when businesses are more vulnerable to failure during a recession.
Most businesses carry some form of debt, which could mean doom if something were to go wrong. A business with very limited or no debt is better equipped to handle a small setback with ease, bouncing back after a few minor adjustments. Businesses that rely upon loans find that a small setback can easily snowball into disaster. If you’re interested in finding out how to get out of debt completely, check out Dave Ramsey’s My Total Money Makeover website for a plan that works for businesses and individuals.
SELL ASSETS YOU DON’T USE OR NEED
If you have equipment, vehicles, inventory, real estate, or anything else of value that isn’t essential to your operations or short-term growth plans, sell off your unnecessary assets. Rather than borrow against those assets for working capital while they depreciate in value and you pay exorbitant amounts of interest, sell them. It’s a debt-free way to infuse cash into your business.
EXPLORE ALTERNATIVES TO TRADITIONAL FINANCING
The bank is not the only source of funding for your business. This recession and the rising number of defaulted loans have spooked lenders into tightening their requirements. Many small businesses with less than perfect financials don’t stand a chance of getting financing; even SBA-sponsored loans have conditional standards and impose strict guidelines.
Not everyone knows about accounts receivable factoring, or invoice factoring as a debt-free alternative to the usual methods of acquiring working capital. The way factoring works is a company sells its customer invoices to a factor at a discounted price. The factor advances up to 90% of the invoice value and then collects the payment from their client’s customer. The factor pays itself back for the advance, plus the agreed upon fee (usually 1-3%), then rebates the remainder to the client. In this manner a business can continue to offer credit terms to its customers, yet receive payment on invoices within 24 hours of delivering the product or service.
Many factoring companies provide value-added services that further relieve cash flow problems, such as accounts receivable and credit management, as well as collection and merchant account services. These features of factoring can help you with the cash management strategies outlined in this paper: keep a close eye on your cash, stay on top of accounts receivable, protect yourself, and avoid more debt.
THE HISTORY OF FACTORING
The principles of factoring date back 4,000 years to the dawn of trade and commerce during the reign of Mesopotamian King Hammurabi. This ancient Mesopotamian civilization is credited as being the “cradle of life.” They were the first to document a code of laws establishing a framework for business and government regulation. We also know that the ancient Romans, some 2,000 years ago, sold promissory notes at discounted prices and Roman merchants employed collectors to settle trade debts.
The common practice of factoring as we know it today started approximately 600 years ago, with its roots in what is now called the merchant banking industry. These factoring forefathers were Jews fleeing persecution from Spain to Italy. They purchased the right to sell a farmer’s grain at harvest in exchange for cash advanced during the planting season.
As widespread colonization in the 17th century demanded grain to be shipped abroad, early merchant bankers began advancing money against the delivery and payment of grain shipped overseas. Eventually, this led to the practice of buying and trading grain debt rather than the grain itself, which is probably where the practice of commodities trading began.
During the first half of the 18th century, as the American colonists began to produce cotton, furs and timber, the demand for these raw materials to be sent to Europe grew quickly. Unfortunately, bank financing was just as slow back then as it is now, and the colonists couldn’t afford to wait for the goods to be delivered across the Atlantic before they received payment. In order to ensure they had cash to fund their operations, factors advanced the money against these colonial account receivables. Thus, international trade markets were formed.
Eventually, by the 1930′s the primary industries still taking advantage of factoring practices were the textiles and garment industries in the United States, but the potential for further expansion was already underway. As the popularity of doing business through credit terms became more common, factors were able to finance many other businesses with invoice-based transactions.
When interest rates went through the roof in the 1970′s and 80′s, and banks tightened their lending requirements, the reliance upon factoring agencies took another leap forward. In the last decade, factoring has become an $80 billion industry in the United States alone with an annual growth rate of almost nine percent. According to the organization Factors Chain International, factoring services worldwide have experienced a growth rate of 100% in the last 5 years.
And with the sudden and drastic decline in the economy since the second half of 2008, businesses have been forced to reevaluate their operations. An even greater need for working capital and even slimmer chances of obtaining a bank loan have brought the factoring industry to the forefront of small and mid-sized business finance options.
Factoring Charges
About Wade Henderson
Wade Henderson: Domestic and International Business Finance since 1995 specializing in challenge situations. "We prefer to find a way to get your loan done as opposed to finding a reason to turn it down.” Connect with me on Google+
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