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CASH MANAGEMENT IN A CREDIT ECONOMY |
In the current economy, many business owners are troubled by the cost of debt. Many businesses have used leverage to build their businesses, and business owners tend to be optimists. They look to the contribution margin generated by increased sales volume to better absorb fixed costs. The consequence in a flat or shrinking economic environment can be disastrous for many businesses. In a flat or shrinking economy, the interest expense can become an increasing component of the expenses of the business for several reasons. First, if revenue declines, interest costs rarely decline. Second, because of the banking crisis, some lines of credit for business clients have been reduced or eliminated. In these circumstances, some business owners move the credit requirement from a newly reduced line of credit to credit cards. The credit card companies are almost always a substantially more expensive way to finance a business. What’s the result? Usually, it is a more expensive interest cost at a time that revenue is flat or declining. Cash flow will moderate the extent to which the business builds or consumes available cash and credit capacity. Cash flow analysis in not simply an interesting management tool; it is a necessity to the good health and future of almost every enterprise. Another important dynamic is the impact on labor costs during a turbulent economy. Many business owners are reluctant to cut labor costs, positioning that when the economy recovers, the people will be needed. It’s usually a better strategy to evaluate the metrics of the business in the context that if labor costs cross a line established as the maximum percentage of fixed and variable labor cost for the revenue currently generated, then labor cost must be reduced. When must the labor costs be reduced? NOW! To highlight the impact of decisions to retain employees when revenue is reduced or when interest expense is growing as a percent of revenue, review the cash flow analysis. As a business owner, that is the equivalent of the cash you must pull out of your pocket to underwrite the decisions you are making. Generally, the impact of the cash flow analysis is so dramatic that the business owner will make the right decision, and then implement it sooner. Even a growing business will run the risk of a cash crisis. Consider the additional cash requirements of a business that is growing. They will need more inventory and will need to underwrite a larger accounts receivable. Will the capital equipment be sufficient to handle the additional volume? Will there be enough space, or will additional space be needed? How will the human resources requirement change? Cash flow analysis and projection can be more than a valuable tool; it can mean the difference between success and failure – even for a growing business. In short, cash flow projection can guide the business owner to controlled, profitable growth. At the end of the day, well run businesses will use cash flow analysis as a tool to manage their destiny by preparing for future needs. For those companies that have the wisdom to keep either cash or credit resources available beyond the resources that they currently anticipate, those firms will likely have the “staying power” to withstand the machinations of this turbulent economy.
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For more information, contact Joe Dresnok, president, Management Horizons, Inc. at
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. Joe Dresnok is at Trusted Advisor of the BUSINESS HOUSE, inc.SM
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