Managing the Cash Flow Gap

Not too long ago, future economic growth might have looked bleak for many business sectors in the U.S. As the economy starts to take a turn, businesses will need to focus on opportunities to grow and improve profitability and stability in the future. It is vital for companies to look at their options to meet anticipated cash flow demands. This first in a series of info-casts will highlight common options and strategies companies use to address cash flow gaps triggered by growth.

Bootstrapping is when a company utilizes its existing resources to self-sustain its cash flow needs to promote and develop the business. Sources and activities commonly associated with bootstrap financing include: personal savings, family loans, offering payment by credit card as an option to customers, bartering, aggressive cost reduction strategies, purchasing used equipment, leasing real estate and property, utilizing drop shipping strategies, managing accounts receivables, obtaining advance deposits, reducing customer credit terms, establishing trade credit with suppliers, factoring, licensing products, and guerilla marketing.

The key advantages are that the owner maintains equity and decision-making power in the business, the company will have less debt and won’t have to pay interest on borrowed money. Ultimately, the company will look more desirable to outside lenders and investors should efforts prove successful. On the other hand, the disadvantages are that the owner is forced to come up with all the financing, the speed of growth can be limited, certain aspects of operations may suffer due to financial resources being tied up to revenue producing activities, and the simple fact that operating on low levels of capitalization requires time and resources.

Debt financing involves the raising of money from lenders under a promise to repay principal and interest. Common sources of debt financing include credit cards, loans from banks or financing companies, loans from private debt investors, or capital leasing.

The key advantages are, like bootstrap financing, the owner maintains equity in the company, tax deductions are allowed for interest on the loan, and the debt obligations are limited to the principal balance and interest over the defined term of the debt. The disadvantages include liability for repayment, high interest rates, negative impact to credit rating, having to provide collateral on certain loans, and the possibility of being viewed as high risk by potential new customers or investors.

Asset backed debt financing is one option that can allow companies to maximize their borrowing capacity by pledging collateral. For businesses without strong balance sheets or historically profitable operations, this may be a common transaction to establishing or rebuilding credit with a financial institution.

Asset backed lending works well for manufacturers with seasonal volume spikes or highly variable industry cycles which can disrupt their cash flow. Such businesses may experience rapid growth at certain times and have well performing receivables, but lose out on opportunities due to undercapitalization.

Accounts receivable factoring is a form of asset backed lending most commonly used by manufacturers. A factoring transaction occurs when a business sells its accounts receivable to a financing company at a discount in return for immediate payment. Although the business will not receive the entire amount of the original receivable, the financing should allow for larger volumes of sales to occur while the company builds working capital to grow.

This is often the most expensive form of cash flow, however if the other options discussed are not available, this can provide the working capital a company needs. Regardless of whether factoring is an option or not, decreasing the collection time of receivables should always be a focus.

There are numerous cash management options that can be implemented as part of a company’s strategy to combat the cash flow gap. The one thing that they all share in common is that they take time to initiate. As the outlook and shape of the banking industry has changed in recent years, companies need to evaluate their available options and be prepared to implement a concerted solution as growth opportunities avail. To best understand just how much cash is needed to fuel growth, companies should prepare a cash flow forecast. Contact us today to see how we can help.