Financial Housekeeping
Rather than wait for the 'king hit' during the downturn, SMEs with the right financial tools and processes will position themselves closer to where they want to be when markets recover. By Mark Story
At face value, many small to medium enterprises (SMEs) prospered prior to the subprime induced credit crunch, despite their inefficiencies. But like it or not, the chickens have since come home to roost for many firms that used external debt to mask these inefficiencies, especially now that access to debt within the economic downturn is much tighter.
According to Sue Hirst, Director of CAD Partners, SMEs need to equip themselves to not only weather tougher times, but also to ensure they're in peak condition to successfully confront challenges and opportunities that lie ahead.
The right tools
Inexpensive accounting software that records and reports on basic business transactions is arguably the best thing that ever happened to SMEs. But Hirst says the problem is that too few know what useful, timely and accurate information these systems should provide about their company's overall position. In other words, without selected (automated) monthly or quarterly reports, SMEs won't know where they're making or losing money.
According to Michael Johnsen, Financial Planner with Johnsen Walker Financial Services, the greater the transparency that regular management reports provide, the lower the fees SMEs should expect to pay consultants for an accurate financial picture of their business. "But beware of false economies, paying monthly bookkeeping fees (or similar) isn't an impost if it delivers a better insight into your financial position," he says.
Profitability
The most important financial data, advises Johnsen is finding out the company's gross-profit position. And while most SMEs fixate on revenue, he says it's equally important to monitor gross profit as a percentage to reveal margin squeeze over time. "Any business should look for net profit of between 20-30 per cent, otherwise they're better off working for someone else," says Johnsen.
Surprisingly, Hirst says too few SMEs fully understand the difference between profit and cash-flow. She says they need to know what a service or product costs them to sell, then they can work out if their revenue is profitable. To do this, firms need to allocate costs to different revenue streams, and different jobs within those streams, then they will be in a position to analyse how profitable those particular areas of the business really are.
Profitability aside, Hirst says the second most important information SMEs need from their financials is their net debt-to-equity position, which she recommends remains below 30 per cent. "The single biggest danger signal for any business should be its need to borrow to service debt," warns Hirst.
Management reports
So what specific reports are indispensable for any SME? Hirst says projecting the company's future cash-flow position 12 months out is critical to establish a break-even point. "For any SME feeling dodgy about its cash position, I'd recommend weekly cash-flow spreadsheets for the next six months."
While SMEs will readily draw on profit and loss (P&L) statements to help make cash-flow projections, too few, advises Anthony Bell, CEO of Bell Partners, bother to produce a dashboard report of key balance-sheet items. "By overlooking the balance sheet, they're neglecting to monitor and manage the assets and liabilities of the business," says Bell.
Accounts receivable
And, if SMEs aren't handling their assets and liabilities, Bell says they're unlikely to be monitoring their average accounts receivable days. He says entrusting someone to chase outstanding invoices is the first of many procedures SMEs can inexpensively implement for an immediate impact on the business.
Managing work-in-progress
Accounts receivable aside, Bell recommends SMEs develop job management systems to hasten work in progress through to invoicing. He says SMEs that don't manage workflow effectively unwittingly compound the strain on cash flow. "Contemplate implementing progress payments for work in progress and shop around for suppliers prepared to sharpen their pencils, push for extensions on payment terms, and seek to consolidate client/supplier relationships."
Bell also suggests going through the P&L to scrutinise how major overheads add value to the business. "If you want to survive the downturn, don't slash and burn by letting productive staff go, consider ways of making them more efficient," suggests Bell.
Managing stock
Johnsen also recommends developing an effective stock management system. SMEs should avoid the double whammy of reduced sales while paying for stock (purchased on credit) that's either warehoused or taking forever to sell. "Monitor forward orders closely, and consider the cost of warehousing when discounting accumulated stock," he says.
Johnsen says SMEs [employing staff] also need written procedures on how things are done and why. "As well as ensuring the uninterrupted functioning of the business, procedures help protect the company's assets and financial processes, especially in the absence of the principal."
