By John Orapa
Whenever I speak to f r i e n d s who are e i t h e r on the verge of starting a business venture or those who have actually started it, they are quick to remind me of how profitable their business ventures will be in a fairly reasonable period of time and yes, sometimes unrealistic period of time. Many will go ahead to share, albeit with much optimism, the impressive short period of time the ventures will take before they break-even and they start making profits. All these assertions are normally supported by well thought out business plans with all scenario projections on profitability clearly documented.
The obsession with profitability has also spread across companies. The Board of Directors of most companies with the exception of NGO’s, pile pressure on the management team to deliver ‘acceptable profits’. The success or otherwise of the modern day C.E.O is now being measured primarily on the profitability of the organisation. In fact most present day bonus structure incentives for companies
are performance based and are pegged on profitability. We have seen C-Suite executives take home hefty bonuses perks annually after the release of positive endyear results.
Surprisingly, whereas universally focus has been placed on profitability, there’s a worrying trend across the globe of many companies (that have been consistently reporting profitability), all of a sudden and
without warning ‘falling from the sky’. I am sure, just like me, you have been caught by surprise by the news of some of the big companies that have either been placed under receivership or have completely gone under especially in recent times.
‘What happened?’It can’t be ….?’ ….’this was a profitable company? Yet more often
than not we have been left with more questions than answers.
In the same breadth l am sure you know a friend or a relative who was running a venture that seemed to be
doing well but surprisingly informed you that s (he) has shut down the venture. I have had the opportunity of working for various organizations as well as had the privilege of setting up and running my
own business and I have experienced the same. This has led me to the conclusion that we have paid too much attention to profitability at the expense of a very critical indicator. Cash flow management!
The Business Dictionary defines cashflow management as ‘the management and analysis of a company’s
The seriousness of cashflow management cannot be understated. Indeed the International Financial Reporting Standards (IFRS) specifically IAS 1 (Presentation of Financial Statements) indicates that a ‘statement of cashflow’ forms an integral part of the financial statements, of course in addition to the
statement of financial position, statement of comprehensive income, statement of changes in equity and the explanatory notes. The Standard (IAS 1) continues to add that each of these statements
must be given equal prominence. It is therefore clear that even the International Accounting Standards Board (IASB) in their own wisdom knew the importance of cashflow management to an organisation.
Experience has over the years taught me a simple lesson. Cash is King! Period!
You may have a viable venture offering a remarkable product or service but if your cashflow is not managed well, you will shut down. Similarly as an organisation, the business development team could be out performing themselves year after year, but if the finance team remove their focus from the cashflow schedules, the organisation stands the inevitable risk of being placed under liquidation. Don’t get me wrong, assessing profitability of a venture is important but you must do it in tandem with cashflow projections.
The Standard (IAS 1) continues to add that each of these statements must be given equal prominence. It is therefore clear that even the International Accounting Standards Board (IASB) in their own wisdom knew the importance of cashflow management to an organisation. Experience has over the years taught me a
simple lesson. Cash is King! Period!
Most organisations as well as business individuals are often sucked into the temptation of selling at all costs. A lot of organisations will bend the rules on their credit policy just so as to seal a mega deal. A
client will be given 120 days credit period yet the organisation makes its purchases on a cash basis. Never mind that the client ends up releasing payment after 180 Days. It gets worse when you are dealing with
a government Institution. It is no secret that many MSME’s in Kenya have a lot of funds tied up with the national government and various county governments for goods and / or services rendered. This has
placed a strain on cashflow leading to unintended consequences. This is because cash is required for monthly operational requirements. Expenses such as salaries and wages, rent, utilities etc. fall due every month and must be settled for normal operations to continue uninterrupted. We should
pay attention to cashflow management and give it the seriousness it deserves. We must strive to keep a keen eye on areas that might lead us to a cashflow crisis.
We must ensure that we have a tight credit policy and where possible have attractive discounts for cash buyers. We must be willing to sacrifice an additional 5% margin but have cash in your coffers.
We must minimise stocks to optimal levels to avoid tying up cash as well as avoid paying for storage space.
- We must ensure that in instances where we seek financing, we match long term facilities, mainly term
loans, to long term assets and short term facilities, mainly overdrafts to be accessed for strictly working capital management. We must also ensure that we negotiate for competitive rates. Where we apply
for term loans, we should push for fixed interest rates to cushion us during volatility.
- We must engage our suppliers with a view to seeking better credit terms preferably with a 3 times cover incomparison with what we offer our clients.
- We must negotiate with our bankers for maximum favourable deposit rates in instances where we have excess liquidity. A careful analysis must be done to determine the ratio of split between the short
term instruments and long term instruments.
- The entrepreneur or the C-Suite executive must strike a balance between the level of profitability they
have set as a target and the extent to which they intend to sacrifice a portion of that profitability so as to have a healthy cashflow.
In my view, whether you are an entrepreneur or a team leader of an organisation, the
secret is simple – don’t run out of cash lest you are run over.
CPA John Orapa is a member of ICPAK.