Cash is surprisingly hard to track, and knowing when it's about to run out is harder if you don't know the warning signs.
Given how important managing cash is to companies, it’s surprisingly hard to get visibility into one's cash position, and also to know when a cash crunch is looming, a treasury consultant said in a webinar on Tuesday.
Particularly for companies with operations in multiple states or countries, just getting a handle on your cash balance isn’t easy because of time and other constraints, Kenneth Fick, director of strategy and transformation for MorganFranklin Consulting, said in the CFO.com webinar.
A surprising number of companies don’t use any kind of treasury management system (TMS) to manage their cash, which means the treasurer or a finance analyst has to manually log into each bank portal, access the accounts, and download a CVS or other type of file to input data into a consolidating master spreadsheet, typically in Excel, to come up with the company’s position, a process that can eat up a lot of time and also introduce manual keying errors.
“Simply knowing what cash you have at the beginning of the day generally can take anywhere from two to six hours, so you’re spending half your day on a Monday, Tuesday or Wednesday just trying to figure out what cash you have,” he said.
One company he’s working with hasn’t been able to get any visibility into the cash it has through a subsidiary in India, creating what he calls a cash “black hole” in its corporate-level accounting. “They know [the accounts] exist,” he said. “What cash is there? Can it be repatriated? Is it just sitting in a non-interest-bearing account? They just can’t access it.”
That company's black-hole situation is unique. For more everyday situations, Fick recommended using a treasury management system because it gives you a way to consolidate your accounts into a single application. Most of the systems are on SaaS-based platforms.
“What they do is minimize these efficiency challenges and provide connectivity directly to the banks,” he said.
Signs point to problems
Fick walked through five early warning signs your cash flow is in trouble.
1. Not having a quarterly cash forecastCompanies that haven’t created a model for forecasting cash that's separate from the other modeling your financial planning and analysis (FP&A) team does are setting themselves up for problems, he said.
“A lot of time your FP&A team models your balance sheet, P&L, and financial statement over 12, 18, and 24 months for planning, but they fail to take it the next step in regards to the cash component,” he said. “They don’t see [where cash is] at 13 weeks. There’s nothing magical about that. It’s just one quarter out, but it gives you that visibility in the short- to intermediate-term regarding
what will come in and go out based on your assumptions in your model.”
2. Not knowing your cash break-even point
The break-even point is the amount of cash you need on a monthly basis to meet your expenses based on your monthly revenue, and if you don’t have a handle on this, you risk coming up short at crucial times.
“If my revenue is $250,000, I know that, in order to make payroll and other expenses, generally, on average, I need about $150,000 to $180,000 in cash per month,” he said. “So, I know if it goes below that, I have to get it from somewhere: a line of credit, cash on hand, whatever. What if you’re a seasonal business? If you sell Christmas ornaments, you get a gigantic windfall in the fourth quarter and you’re cash-flow negative throughout the rest of the year. So you have to understand where that break-even point is.”
Fick said you should take it as an ominous sign if your company resorts to discounting just to get money in the door to meet your monthly expenses. “ A lot of times I’m seeing, ‘Well, I have all this accounts receivable, but I don’t have enough cash.’ If you’re starting to discount because of the cash impact to get revenue in the door, that’s a big warning sign.”
3. Use of long-term debt
There’s nothing inherently wrong with using long-term debt to cover short-term costs if it’s part of a plan for, say, ramping up operations quickly, but if there’s no strategy behind it, it’s a sign cash has become a problem, he said.
“If you’re seeing a company take out long-term debt just to meet short-term expenses, that’s a warning sign because short-term expenses can become long-term very quickly,” he said. “When you’re in that position, it’s best to cut costs than to borrow.”
4. Tax payment delays
No one likes to pay the IRS, but asking for delays because you don’t have the cash is a sign that you haven’t managed liquidity well, which will cost you more in the long run. “Especially for smaller businesses, the IRS will just beat you to death,” he said.
5. Too-fast growth
Fick also said growing too fast can be a warning sign, because it can point to a misalignment between your accounts receivable and your accounts payable.
“So, you’re selling to Walmart or Target and they require you give them 90-day terms,” he said. “They’re the big players. If they say 90 days, it’s really 100 or 115 by the time they cut the check or run the automated clearing house (ACH) or whatever. What your vendors require of you are 30-day payments, and you have no power over them. So, you have to basically float that difference for 90 days. If you’re having trouble with that collection process, that is another big warning sign.”
Fick suggested five best practices for effective management of your cash.
It’s imperative that finance executives communicate their forecasts accurately, because miscommunication can lead to decisions that don’t match what’s happening. The company “might borrow more that it needs to meet conditions that don’t materialize or they can leave funds unnecessarily idle, which I see very often, actually,” he said. "Communication is the best way to avoid a liquidity crisis. You always want to forecast [business] drivers, not the number. Effective communication is a best practice regardless of the [market] environment.”
2. Cash flow vs. revenue
Cash flow and revenue both indicate your company's financial health, but revenue is about the effectiveness of sales and marketing, while cash flow is a function of liquidity or money management. Fick said cash flow can be negative, but revenue really can’t be unless there’s something very wrong with the company. To measure cash flow, don’t forget to include money that comes in through other channels separate from the sale of your core product or service.
“Companies obtain cash in a variety of ways outside their main business,” he said, including “interest, warranty fees, other fee income — even SaaS has a set-up fee — one-off projects for professional services like fixing things.”
3. Inflows vs. outflows
Fick said you should identify all sources of inflows and outflows and then work to maximize inflows while minimizing outflows, and to a large extent that means focusing on timing.
“If your customers are asking for 90 days and your vendors are asking for 30 and you have no power over your suppliers, that’s an issue,” he said. “You can use things like supply chain financing (SCF) to ask your vendors to give you longer terms. Maximize timing, extend your payment terms, understand your control of them.”
4. Scenario planning
Creating scenarios in the FP&A function is common, but it should be done for cash, too, he said.
“What scenarios do, especially for cash, is they provide a playbook for you. What ifs,” he said. “Having these ifs before they happen helps you think through and build that playbook, so if it does happen, you’re executing and not thinking.”
Tariffs provide a good example. “Tariffs affect the P&L but they also affect cash and future business.”
5. Variance analyses
Fick recommended you set tolerances for what you can accept when actuals come in at a variance from your projections. If you set a tolerance of, say, 5%, you're prepared to take action once you hit that difference from your projection.
“There might be customers who fail to pay,” he said. “Sales don’t materialize, you see unexpected expenses, you have to understand and analyze those in the short-, mid-, and long- term. Nothing is set in stone.”
Despite its importance, cash can be a challenge to manage. But by knowing some of the warning signs and following best practices, you can help protect your company from that gravest of all ills: not being able to meet your company costs because you’ve run out of money.
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