When growth is bad (and running out of cash)
The following is a re-post from February 2015. It has been re-posted as it has been a topic of discussion with a couple of existing clients as well as potential new clients.
With our existing clients, we are planning around how fast they can grow and the issues around including cash flow, cash reserves, need to borrow as well as many other issues including their staffing and training. We have created a clear picture of what sustainable growth will look like, can measure how we are tracking and are dedicating the necessary resources in a planned roll-out.
On the other hand, some potential clients have come to us and they have found themselves, as you could say, in a pickle. Sadly with no proper planning they didn’t see it coming. It has come as a very rude and great shock. Pity their accountants didn’t provide such planning and cash flow assistance.
Last week I queried whether your plan will work and touched upon good and bad growth.
Increasing sales is not the answer to everything. It is not uncommon to see a business solely concentrating on increasing sales fall part if they haven’t ensured the business has the right team and systems in place to support greater turnover.
Worse still, some businesses even fail as they run out of cash due to the increased revenue not being enough to fund greater expenses and the greater amount of money locked up in debtors and stock.
Consider this……
Take a business that doubles its sales from $1,000,000 to $2,000,000 and everything else doubles from:-
- Cost of goods sold from $700,000
- Overheads from $175,000
- Net profit from $75,000 (average tax rate remains at 40%)
- Debtors from $125,000
- Stock from $160,000
- Creditors from $75,000.
Sounds good?
Actually, it’s a disaster.
Why – because the working capital required has doubled from $210,000 to $420,000 whilst the doubling of profit after tax has only generated an extra $150,000 – of which $60,000 will go in tax. What seems to be a new dawn will actually prove to be a nightmare. The business owner in such a case might think they are going forward in the right direction but there is something coming awfully big and fast straight at them!
The problem here is that the owner has concentrated on sales and sales alone. The outcome would be quite different if other key drives such as debtors, stock and creditors turnover were addressed (and for which we have many strategies from our many years of experience and supporting tools).
We were a member of the Principa accountants network (from which this example was generated) as well as other accounting groups that provide tools to assist our clients with cash flow control and planning – and for many other areas as well.
Why not refer to our web page’s article on business improvement potential. Or better yet, why not ring Alex Stewart and make a time to sit down and have an obligation free meeting to discuss how we can help your business.
So again I ask, will your plan work?
At MRS, we will spend today planning for your success.