The Impact of Debtors on Cash Flow

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Transcript

Concept my fellow directors of businessDEPOT, particularly those letting our accounting teams, are reinforcing with their clients over and over again—revenue is vanity, profit is sanity, cash is king. Here’s a case study of exactly how that shows out. Now what I’ve drawn up here on the blackboard is a cut-down version of one of the reports that we provide to our strategic financial advisory clients on a quarterly basis. It’s looking at cash flow, and specifically we’re just looking at a couple of key elements of the operating cash flow. I want to talk about this, not just in terms of numbers, but in terms of the emotional impact that has on you as a business, as a business owner, and importantly the two key things that I did with this client to improve their cash flow.

So, we can see here is revenue for the period; revenue gives us blue arrow which heads in that direction. More revenue: the further we are in that direction, the more profitable we are. But then as the month goes on, the red arrow starts to pull us back. First of those red arrows is the cost of sales, sometimes known as colds the cost of goods sold if you’re in retail business or product business. Cost of sales brings that revenue back.

Here’s one of the challenges you have as a business owner is that your team will usually have a pretty good idea of the cost of sales but nothing below that, which means when they think about how profitable your business is, they think about the revenue, and they think only about the impact of the cost of sales. They think the rest of that is profit; of course, you know better. You’re aware that the next thing sitting there is expenses.

All those other overheads that are not related specifically to getting sales out the door. Rent is one of them are the biggest ones that I see in businesses, and this pulls that arrow back here even more. Revenue: less the cost of sales, less expenses, starts to give you an idea of things like net profit and operating profit. This is where some business owners can get stuck because again, just like the team, finish early, the business owners can finish early, and feel that they’ve got all this profit and therefore they ought to have all this revenue.

So, in this case with a client, we wanted to go through and find out why they were struggling with cashflow month after month even though they had very strong revenue. It sat in these next two elements—changing creditors Accounts Payable and change in debtors accounts receivable. So, you can see here, changing creditors very gently moves the blue arrow back in that direction. That means they’re paying their creditors a little bit more slowly; they’re holding on to their cash a little bit longer.

The change in data so is a very big arrow that pulls us all the way back almost to the very beginning. What this tells us is that the change in debtors their accounts receivable has blown out. Their clients are holding on to the clients’ money a lot longer, and that money is therefore not coming in the door. This is why their cash flow is struggling at the moment. This is why they’re sometimes finding it difficult to make sure that they have the money for some big expenses, like a quarterly superannuation or a bask or even wages. Because even though revenue is strong expenses are under control, they’re letting their clients treat them like a bank.

So, what are the two things we had to do with this business to help overcome this? The first was putting in place a debtor management program. Getting the administration team and the specific professionals who are doing the client work on the phone with their clients much more frequently, chasing up those debtors and helping very rapidly turn that from a red arrow into a blue arrow as all of those long-term debtors kicked in. The second thing we wanted to do was build a system so that this didn’t happen again. That system broke down simply into improved workflow meetings with the team every Monday. Having a look at the work in progress, making sure that the team was scheduled through the week, so that they were each at a reasonable level of capacity, and then encouraging the team to make sure that they were finishing jobs, or if they were partial jobs, getting partial invoices out and making sure that they were delivering invoices to the client much more of a timely manner.

Because clients love receiving the work, they’re less loved receiving your invoices. If you can tie those two together energetically, the clients are much happier to pay. When they’re happier to pay, they pay faster. The key mantra that this client developed, which I love, and I use with a lot of other businesses, is to get the team to stop thinking that the job out the door is the job done. The job is not done for the team that you have for you and your business until the job and the invoice around the door, and the invoice is paid. That’s job done and that turns a red arrow for debtors into a blue arrow and helps push your cash flow much closer to your profitability, giving you a happier, healthier business.

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