Insights

As business owners continue to battle with uncertainty and a long lasting recession in Europe, one might be forgiven for thinking this is now business as usual. According to the management consultants McKinsey & Co it is. This landscape is what they have coined the ‘new normal’, which requires businesses to stay agile and cash rich if they want flourish and grow. After the Olympics and our exceptional summer of sports, effective management of working capital should be a central element of every business director’s armoury.

Working capital is the amount of cash available to finance ongoing business expansion. It’s money to pay salaries, invest in marketing activities, pay suppliers, spend on raw materials, resources, or move to better offices. This is different to cash flow, which is the movement of revenue into and out of the business, but central to achieving effective cash flow management.

Cash is king for businesses seeking opportunities

Trying to reinforce the point of good working capital management, we always tell our clients, “you might have a highly profitable business but that won’t necessarily stop you from running out of cash.” Time and again, a lack of cash is the reason why many otherwise perfectly sound businesses fail. Ask any insolvency practitioner about the types of businesses they have to restructure. There are plenty of rich pickings out there currently for rescue funders searching for bargain investments.

Good working capital management gives business owners the advantage of an early warning signal should they need to improve their cash reserves. When properly managed, it means they can quickly take advantage of new opportunities should they arise, independently of securing independent finance. Given how difficult it is for growing businesses to raise external funding currently, being able to organically finance new ventures is an ideal scenario.

Top tips: how to improve working capital management

1. Improve customer management

The obvious thing to mention here is credit control and ensuring you are paid on time. In addition to this, there are other tactics to follow. For instance, do you invoice as soon as a sale is approved or a job completed, or do you wait until the end of the month? Do you work on a 30-day payment schedule?

If so, any sales made early in a calendar month that are invoiced at the end of the month effectively mean you are giving your customers nearly 60 days of credit unnecessarily.  Invoicing immediately means you automatically reduce the level of credit given to customers. Many businesses now use automatic data capture and proof of delivery systems to help reduce their accounting cycles, by immediately triggering an invoice once goods are recorded as being received by the customer, rather than waiting for sales invoices to be processed manually.

Try to cut credit terms further if possible, and even consider giving customers early payment discounts. Where a business uses its working capital to buy raw materials, consider factoring or invoice discounting as an option.

2. Optimise accounts payable

Are you paying your suppliers before you get paid for a job? Could you be negotiating better payment terms from suppliers? When looking to make improvements to working capital, always ensure you take the maximum available credit period available. These days, many professional services firms for instance may be willing to accept unusually long payment terms to win business.

If you are looking to make an investment in new equipment, try to avoid tying up significant amounts of cash in assets where possible. Many manufacturers, especially in the IT sector, are offering ‘managed services’ bundling hardware, software and support services, whereby the customer agrees to a fixed monthly fee over a certain time period. This means that instead of incurring a one off initial capital expenditure, they can spread the costs and reduce the overall risk of an investment.

3. Reduce overheads

Regularly monitoring your business overheads will ensure you quickly spot where money is being wasted unnecessarily. For instance are you subscribing to magazines no one really reads? Do you have subscriptions for online services, i.e. web hosting or cloud-based database resources that people are not making good use of? There represent immediate savings to be made.

Another area where businesses can improve working capital is by streamlining stock levels. This immediately reduces the amount of cash tied up in a business. Instead, take inspiration from major manufacturing brands and try to adopt more of a lean, ‘just in time’ approach to stock management, keeping very little in warehouses and eliminating any slow moving lines.

If you follow some of these tips, you should see a clear return from your efforts within the year and significantly improved working capital levels.

For advice on accountancy matters and optimising the performance of your business, contact Simon Paterson by emailing sp@rjp.co.uk.