Over the next couple days, I want to talk about CASH! (cue The O’Jays’ For the Love of Money)
There is one thing that I’ve had to learn the hard way about having a business and that is cash flow management. Even I, someone with a good accounting background, has made some darn-right bad decisions with money. Most of these mistakes were a result of risks that I took with my business. I’m not sure if there would have been another way around it because I wanted to take a leap. This is what business ownership is about. However, I do wish I had put a better strategy in place… yes, you could say, I had been lax about planning this out.
The TWO BIG Mistakes I’ve Made with Cash
Mistake #1: Acquired Business Debt without a Repayment Strategy
A few years ago I moved into a GORGEOUS studio in the Capitol Hill neighborhood of Seattle. A short while after moving in, I decided to take on a line of credit. (In those days, banks were passing them out like free samples.) I wanted the credit line to allow me a little flexibility when purchasing furniture and equipment for the office. I now had an office and I needed to furnish it. It wasn’t a huge line of credit, but it was debt nonetheless. BAD move. Here’s why:
- I didn’t have a solid repayment strategy. I purchased furniture for the office. In my head, I thought, “the new studio will bring me added business and I’ll pay it off.” But, I didn’t really do my homework. How was this studio (and its furniture) going to bring me additional business? And, what did those # & $ look like? Did the Seattle market really care if I had a studio and fancy furniture? And, if they did, how would it correlate to sales?
- A credit line should only be used for seasonality offset of a business’s cash flow. For example: Company A produces 5000 widgets in January and sells those 5000 widgets in June. In order to finance and produce the widgets in January, Company A uses its credit line. By the time June rolls around, the widgets are sold to pay off the credit line, the interest and still have a nice profit. I bought furniture, which I wasn’t selling. It was sitting there, albeit pretty, but it was not an income-generating investment.
- The slowing economy SHOCKED me. In 2008, the economy was good… but it was beginning to make its first signs of slowing down. I had been on a steady upward swing from 2004 to 2007 and thought 2008 would only continue on that rocket-ship to the sky. I was wrong. 2008 was flat. And, as a result, this credit line became my crutch and my drug. I relied on it for slow months when I didn’t have cash flow from sales… for whatever it is that I needed: rent, payroll, inventory, office supplies. YOWZA. BAD. Again, I wasn’t using it for the purpose I should have been: as a seasonal extension of my cash flow. It was becoming an important part of my cash flow and that was dangerous to the long-term health of my business. Most of my profits went into paying off that debt instead of into other parts of my business – or even to myself. I subsequently resolved this dependency, but it took me a while to get it straightened out and to stop the credit line “misuse” cycle.
Mistake #2: Invested in Inventory that had slow Turnover
Consider yourself lucky if you provide a service. As far as cash flow is involved, you have very little (if any) cash that needs to be outlaid for product/inventory.
For the rest of you(s)… especially stationers… pay attention…
Inventory Turnover is a term used to describe how quickly you can buy inventory and sell it. In the “accounting world” this is actually quantified and calculated by the number of days it takes to sell something. Something with an inventory turnover of 2 days is a helluva lot better than something with a turnover of 3 years.
Money out =(quickly) Money in
Money out =(slowly) Money in
You want to be able to turnover inventory quickly for 2 reasons:
- you want the cash you paid on that inventory to be earned back quickly
- if you have large amounts of inventory in possession, you will have storage costs. (Granted, paper is small/flat… you can keep a lot of paper in your closet… but think of your company bigger… how much paper would you be able to store before you need to pay for a rental unit or warehouse or office?)
In summary, if you are sitting on inventory, you are sitting on CASH. Usually, I only bought inventory if it was attached to an order placed by a customer. However, there are a few times that I fell in love with a paper and I REALLY wanted to have it. I gave myself a budget and only purchased within that budget and I took a risk, hoping that my clients would love it as much as I did. Sometimes they did –> jackpot! And, sometimes they didn’t –> fail!
And, there were other times where my math got the best of me. I would have a small order that I’d need to place of 50 envelopes and would purchase them bulk wholesale to get best pricing per piece (unit cost). I thought:
250 envelopes at 10c a piece is MUCH better than 50 envelopes at 25c a piece
TRUE. But, the cash outlay for 250 envelopes of $25 is more than the 50 envelopes at $12.50… especially, if other customers don’t end up buying the other 200 envelopes. Do this a hundred times… you get the idea, right? The total cash outflow (especially on inventory that doesn’t move) is a much greater consideration than the unit cost. You must keep your unit cost low… but in a case where you aren’t certain about reselling the extra inventory, I would recommend buying smaller quantities and keeping your eye on total cash flow.
Keep Your Eye on the Money…
I’ve talked a lot in the past about knowing your numbers: having a sales plan and an expense budget. Managing cash flow is even more critical to having a healthy sustainable business.
Tomorrow… come back… I’ll have some strategies for creating healthy cash flow in your business…