Whether or not the current economic downturn will become a full recession remains to be seen but one thing is clear : the days of cheap credit are over. Banks are tightening their belts and looking to improve their own margins and this is impacting on the lending rates that they are offering to their customers. No longer can businesses rely upon the upward curve of growth in sales to finance current expenditure. Many businesses are facing a downturn and the drop in sales is forcing them to look closely at their financial management. Cutting costs is only one half of the exercise. It is also essential to ensure that proper cash management systems are in place.
Many businesses that go to the wall fail, not because they don't have a good product or service, but because they simply run out of cash. One lesson that we learnt from the dot com collapse, which primarily affected innovative e-commerce businesses, was that "cash is king". Without the cash to pay your overheads you stop being able to operate and you either to close the doors yourself or you are faced with your creditors taking the action for you.
So what can businesses do to try and improve cash management? Do you know what proportion of your invoices are overdue? Do you know if customers are paying you on time? Are you incurring unnecessary bank charges by not being able to manage the cash flow in and out of your business? Do you have value tied up in stock that in reality is no longer required? Managers need to have a handle on all these aspects of the cash management cycle.
A starting point is to look at your own payment terms. Are you incentivising your customers to pay promptly? Are you offering discounts for early payment of invoices? Do your terms of business still stipulate the standard 30 days for payment? Reviewing terms and conditions to tighten payment terms and to offer incentives is a good starting point.
The next stage is to know your customers. Long standing customers may themselves be facing more difficult times. Are you monitoring the payment profiles of your key customers? Is there a pattern emerging that should alert you to trouble ahead? Sharing information within your industry can also be useful to help identify risks.
Getting payment from a customer in difficulty is often a matter of getting yourself to the front of the queue and shouting the loudest. You need to get yourself noticed. Polite or standard form reminders simply get ignored. More formal demand letters often do the trick. A warning letter threatening legal action can often be enough to get your cheque to the top of the cashier's out tray. Use your lawyers or debt collection agencies to put extra pressure on your debtors to help you collect the cash. For sizeable invoices this can be money well spent and we are increasingly seeing businesses taking that more aggressive approach to debt collection.
You also need to alert your customers to the cost of not paying on time. Legislation has been in place for several years now to enable businesses to claim interest (at 8% over base rate) on overdue invoices due by other business customers. In our experience many businesses are simply unaware of this entitlement.
Regular review of your inventory should also alert you to stock that is not moving. Can you afford to have your working capital tied up in stock that is not moving? Take a hard look at this dormant stock. Do you need to keep it or is it really obsolete? If so, should you simply bite the bullet and sell it and generate some cash and rationalise your own purchasing going forward?
A few simple steps to improve financial discipline and cash management can make all the difference.
Paul Hally is a partner specialising in restructuring and insolvency law at leading UK law firm Shepherd and Wedderburn LLP.