We would probably all agree that a business owner and financial manager can be forgiven for wondering why a company whose business is ‘great’ could be a candidate for failure. Let’s assume our last comment related to ‘Sales.’ We could however say the same for profit.
The answer is of course, it’s the ‘lack of cash;as a business grows it uses more and more cash to hold accounts receivable and inventory. Yes, the company has a line of credit with the bank, but what happens when business owners find themselves up against the top of the line on a continuing basis. Bankers like it when a line of credit fluctuates – being at the top of the line all the time without those fluctuations portends a problem.
There is a top notch business case in the United States that illustrates our articles theme. The case involved a department store in the 1960’s called the W.T. Grant Company. The basics of the story are as follows, and it’s a classic case to illustrate out point.
What makes the Grant story more compelling is that the company literally helped to change the laws around financial reporting. Up to the time most companies simply produced a balance sheet and income statement. When the balance sheet had a lot of assets, which were growing, and the income statement had a lot of profit, well, what could possibly be the problem? Banks continued to lend to Grant on an increasing basis, and Grant started to lend to its customers for purchases on credit. Sounds good, right? Except for the fact that Grant ultimately filed for bankruptcy.
As accountants, lenders and investors started analyzing the company more closely it turned out there were lots of assets and profit, just no cash. The company had actually been burning cash, as the expression goes, for ten years. It was a textbook case of no working capital or the controls to recognize it. All those receivables and inventory were in very poor shape, receivables uncollectible, inventory un-sellable.
Although all investors and lenders still look at the bottom line profit, as much focus today is placed on cash flow. That’s because cash flow is directly linked to overall profitability.
Typical signs of a business going down this path are:
– expansion and growing seem evermore difficult
– every situation seems to be a crisis
– management has no handle on the real financials
As the majority of businesses are financing by banking arrangements the company also starts missing loan payments with pressure from other creditors and suppliers not far off.
At this point assets are no longer growing; they are at risk of shrinking. Sales slow down, and money seems to be leaving the business, not coming into the business.
In summary, businesses need to focus on working capital, as much so in times of growth as times of a downturn. Business owners tend to rationalize the working capital problems by blaming the economy, a competitor, the dollar currency, etc. Blame is an easy way out, the solid business owner recognizes the fixes required, looks at internal matters such as financials and working capital, and exerts change in processes and controls. Losses won’t necessarily put a business under, but we are assured lack of cash will.
Businesses with solid working capital and financial possibilities survive in bad times also!
Stan Prokop is the founder of 7 Park Avenue Financial. See http://www.7parkavenuefinancial.com. The company originates business financing for Canadian companies and is a specialist in working capital and asset based financing of all types. For more information or contact details please see:
7 Park Avenue Financial : South Sheridan Executive Centre
2910 South Sheridan Way
Direct Line = 905 302 4171
Office = 905 829 2653
Email = firstname.lastname@example.org
Article Source: http://EzineArticles.com/expert/Stan_Prokop/432698 7 Park Avenue Financial
Canadian Business Financing