I HATE TO SAY I TOLD YOU SO!

This is a sad day for long-time antique Kodak camera collectors like me, not a day to remind readers about the critical importance of cash flow to business survival.

Unfortunately, as demonstrated by the following timeline, the inventor and one-time “King of Cameras” has been reduced to a shadow of its former greatness. It was victimized by slow strategic decision-making and the dreaded negative cash flow.

Here is a brief summary of their 128-year history.

  • 1884: George Eastman developed film technology to replace photographic plates. He founded Eastman Kodak in 1892. With the slogan “You press the button, we do the rest” he introduced photography to the masses with cardboard box cameras that sold for $1, the equivalent of $24 in 2009 dollars.
  • 2009: With its market steadily evaporating since the 1975 invention of digital cameras, Kodak ended a 74-year run when it discontinued production of Kodachrome film. Their SEC filings reported a $210 million loss that year. Ironically, a Kodak engineer invented the digital camera.
  • January 19, 2012: The market for film cameras now virtually extinct, Kodak has witnessed its market value plummet from over $30 billion to $150 million. Today, they filed for Chapter 11 bankruptcy protection, having endured an operating cash drain of $750 million over the past twelve months alone. A company spokesperson said they “intend to sell significant assets” during the bankruptcy.

The moral of the story is this: few things in life are absolute. The laws of gravity and physics come to mind. Another absolute is the need for positive cash flow.

Almost everything else is negotiable.

© 2011 by Dale R. Schmeltzle

CFO America: Your Cash Flow Optimization experts

CASH: NOW YOU SEE IT, NOW YOU DON’T

The first response to a cash crisis is usually to tighten up on expenses, cut back on something, or generally to make do with less. That may be necessary, but it is usually only part of the answer.

As shown in the diagram below, cash flows generated (or consumed) by any business are the net result of the inter-action of three related cycles. They are the expense, revenue and capital cycles. I will discuss the first two today, and conclude next Friday with the capital cycle.

A brief description of each follows, along with what I consider the most common problems within each cycle. All three cycles presuppose that you have the ability to measure and monitor its activities and results.

The expense cycle:

Let’s start with the expense cycle, the assumed “bad guy” for most small business cash problems. This cycle is largely what the name implies. It is also the easiest to fix.

The expense cycle involves the cash used to pay vendors, employees and others for the goods and services they supply. It also includes operating expenses such as rent and utilities.

The biggest obstacle to correcting expense cycle issues is one of attitude. Your goal is not to “pinch every penny” and second-guess past spending decisions. Experience teaches that it is too easy to miss the big picture while focusing only on inconsequential items. Reducing paper clip expenses by 80% will not save your company.

The focus of your expense cycle review should be to ensure that costs are planned and justified by their expected benefits. Ask yourself whether they are consistent with your business goals. If the answer is no, the appropriate action is to eliminate the expense. It is that simple!

Furthermore, expenses must be incurred within an environment of adequate internal controls. This control environment includes management tools such as monthly financial statements, a detailed budget and basic procedures such as a purchase order process with competitive bidding. Without these controls, it is simply not possible to manage expenses.

The revenue cycle:

The revenue cycle deals with money coming into your business. If only it were that simple!

Problems within this cycle are the most difficult to identify and analyze, especially if management lacks a solid grasp of the numbers. Consequently, the root cause of many business failures lies within the revenue cycle. They are unpleasant to address, since they ultimately affect customer relations. Two examples follow.

Money coming into a business always starts with a sale to a customer. However, it does not end there. If your business offers credit to customers, making a sale actually drains cash until you collect the receivable. This creates an inherent conflict between the desire to increase sales through generous credit terms and lenient collection procedures, and the need to maximize cash flow. Success in this area requires adequate internal controls including standardized billing and collection procedures, a balanced customer approval process, and sound treasury management.

One unpleasant aspect of squeezing more cash out of the revenue cycle is the prospect of having to raise prices. Perhaps the single most common mistake is under-pricing products and services relative to your cost structure. Correcting this challenge is even more difficult after you have established unrealistic customer pricing expectations, or if you operate in an especially competitive environment. People who do business with you primarily because you offer the lowest prices are unlikely to exhibit much customer loyalty.

We will finish this topic next Friday with a discussion of the capital cycle and a closing comment on cash flows.

© 2011 by Dale R. Schmeltzle

CFO America: Your Cash Flow Optimization experts

 

CASH IS KING, LONG LIVE THE KING!

 

 

Today’s title is an obvious parody on the old phrase, “The king is dead. Long live the king!” It dates to thirteenth century England. It conveyed the immediate transfer of power between a deceased monarch and the heir to the throne. More relevant to our purposes, it signified the continuity of sovereignty, or the supreme authority.

Future articles will explore where cash comes from, and where it goes, two critically important issues for every small business. For now, I will discuss the more basic question of why cash is cash king in today’s business world.

First, allow me to quote the experts. A 2005 study titled Small Business: Causes of Bankruptcy by Don B. Bradley III and Chris Cowdery of the University of Central Arkansas explained the supreme importance of cash rather succinctly:

“A lack of cash flow is often the biggest failure indicator. A lack of cash flow could cause a business to fall behind on wage payments, rent, and insurance and loan payments. A lack of cash flow also could inhibit the company’s ability to reinvest for future profits such as the ordering of products or supplies and marketing execution. When a company is borrowing to pay off past debts, it is usually a sign of disaster to come.”

They also said, “A significant shortage of cash flow limits the company’s ability to respond to outside threats. This is critical for fledgling businesses since new threats seem to appear every day.”

The only thing you can be certain of in business is that things will never turn out exactly as you planned. Adequate cash allows businesses to survive extended periods when sales, profits and cash flow are running behind plan, whatever the cause. Every business requires some level of cash to serve as a buffer against this uncertainty.

You could say cash provides sleep insurance. Constantly worrying whether a large customer will pay their invoice in time to meet Friday’s payroll, or whether you will have to turn away sales during your busiest season because you cannot stock sufficient inventory to meet demand is too often part of a businessperson’s everyday thought process.

Adequate cash levels are especially vital during the initial start-up period of a business. However, while the risks and challenges change as a business grows and matures, cash is supreme during any stage of a company’s life cycle.

For example, imagine that a 120-year-old company generated $1.2 billion in net losses. My immediate reaction is they certainly won’t be around to celebrate their 125th anniversary. That company is Alcoa. They lost $74 million in 2008 and a staggering $1.1 billion in 2009. Yet, Alcoa is still the world’s third largest producer of aluminum, and still trades on the New York Stock Exchange.

How is surviving such staggering losses possible? It was possible because during the same two years Alcoa generated $2.6 billion of positive cash flow from operations. As the old adage goes, “You can survive almost anything if you just have enough cash.” Businesses close their doors when they run out of cash to pay vendors and employees, period!

Here is an even more dramatic and current example of why cash is king.

AMR Corporation, the parent company of American Airlines, filed for bankruptcy protection in November 2011. During the previous 15 quarters, the company accumulated over $4.9 billion in net losses. Yet industry experts seem confident the company will successfully emerge from bankruptcy. Why? AMR has over $4.3 billion in cash on its balance sheet.

Far too often, the immediate response to a cash crisis is to tighten up on expenses, cut something back, to make do with less! That may be an appropriate tactic, especially if you have not scrutinized expenses closely in the past, or do not have a good handle on your cost structure.

However, cutting back is not the only tactic.

Next week I will begin a discussion of how cash flow generated (or used) by any business is the net result of the inter-action and proper management of three related cycles. They are the revenue, expense and capital cycles.

Until then, long live the king!

© 2011 by Dale R. Schmeltzle

 CFO America: Your Cash Flow Optimization experts

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