Surviving a Cash Crunch

cash_crunchSmall and mid-sized companies live and die based on cash. That’s why one of the first things a business advisor does is to make certain that there is an accurate cash flow forecast and that the company is managed to that forecast.

Whether based on too rapid growth with a critical need for more people and inventory or a market decline, operational issues can devour a company’s cash.

Without adequate access to outside capital, a financial hemorrhage can escalate to a liquidity crisis; an ugly period when no one gets paid.

At Such A Time …

At such a time, company leaders must relentlessly focus on only one thing: finding cash and holding on to it. Everything else pales by comparison, growth, profits, everything.

When startups run out of money, they often solve the problem with credit cards, or if they are venture backed, with a quick infusion of venture capital. But mid-sized companies typically need millions of dollars to survive. If they don’t find or receive it, employees and their families suffer as does a larger ecosystem of customers and suppliers. Large companies rarely face this company killer as most of them maintain large cash reserves; have access to the financial market and possess the financial discipline to react long before a crash.

Mid-sized and smaller companies need to be far more cash-conscious, even downright cheap when there is a possibility of a market decline or operational issues due to overly rapid growth.

Major Cash Uses …

Let’s look at the major cash uses in a mid-sized company:

102963-3d-glossy-green-orb-icon-alphanumeric-m01-clearThe first is people. While every company needs the best people it can find, a company needs a set of metrics to measure its operational efficiency. Assuming similar growth rates, if others in your industry are achieving greater levels of revenue per employee, they are using less cash on an ongoing basis.

102964-3d-glossy-green-orb-icon-alphanumeric-m02-clearNext are inventory levels. If you are turning your inventory fewer times than the average in your industry, then you require more cash on a continuing basis to support carrying that inventory. And since there is probably borrowing against that inventory, cash is going to pay the interest as well.

102965-3d-glossy-green-orb-icon-alphanumeric-m03-clearThird are sales costs. Do you know your customer acquisition costs? Do you know the profit or loss associated with each customer? If you are actually losing money on a big customer, can you fix the problem or should you really consider firing the customer?

As you look at the issues above, there are a number of steps that a company can take before a cash crunch occurs to help prevent it from becoming an emergency:

Steps That A Company Can Take …

Keeping an emergency cash hoard: Owners of mid-sized companies should build a financial cushion outside of the company in case the coffers start running dry.  One of our clients had a very significant stock portfolio as well as venture investments.  But, because the stock portfolio had been used for collateral to support a working capital loan, when the market crashed, the stock was called by the bank to help repay part of the loan.  Although the stock recovered significantly in a matter of weeks and would have provided significant cash to help the company; it was too late.  Having cash or liquid securities that are not tied to the company is one of the best ways to insure prevention of a cash crisis.

Mastering the numbers: Many mid-sized companies have woefully inadequate general ledger information.  In one example, a new CFO joining a company was shown financial reports that looked very rosy.  Revenue had doubled in the past year and profits were a solid 10% of revenue. But the CFO was hired because despite these outstanding financials, the company was chronically short of cash. Three months later, the CFO determined that there were serious GAAP revenue and revenue recognition errors. The net GAAP revenue was only 15% percent of originally projected and profit was less than 10% of the original number.  Luckily, the company was able to find a new lender that enabled it to survive and grow substantially.

Cutting fast and precisely: Most smaller and mid-sized companies make cuts by the seat of the pants. Or family and favoritism slips into the equation. The only way to rapidly make changes that are not detrimental to the company is to look at two key issues:

Two Key Issues …

1. What is the level of efficiency of the employee and who is critical to rebuild for the future. In one company that was struggling to decide where to cut, the names of all employees were laid out, and the CEO and RP business advisors addressed the issue unemotionally. The company not only survived the cash crunch, but remains thriving almost 10 years later.

2. Maintaining borrowing power: If the CFO has a realistic budget and solid grasp of the numbers, it’s much easier to borrow money. Even in a turnaround, it has been our experience that once a company is on the right track, money not only becomes easier to get, but significantly less expensive.

But What If …

But what if your cash forecast shows that your needs exceed your borrowing capability? Then it’s time to consider taking in additional equity. But be very careful when raising equity for a privately held company. Make sure payback and return expectations of your new investors are in line with yours.

As a rule, a private equity firm will look at holding a portfolio company for three to five years; a venture capital fund up to ten. And, of course, there are numbers of exceptions. But make sure that the time-frame and returns match the projected ability of your company or things can get ugly. If the match isn’t right, don’t take the money and keep looking.

If you’re having trouble dealing with the situation, get outside help. There are many of us who deal with situations like yours on an everyday basis.

The thing to remember is that there are lenders and investors out there for almost every company. So the most important thing in a cash crunch is: Don’t panic!