EFM Associate Edward Leek is an internationally experienced Finance Director and Chartered Accountant with an established track record of working with founders and helping steer their businesses through growth.

In this Q&A, he shares his thoughts on the importance of managing and optimising cashflow, and why this is an area in which businesses can particularly benefit from the expertise of a part-time, outsourced FD.

Interviewer - Edward, if you had to sum up the importance of cash flow in one sentence, what would you say?

“There’s a good phrase that describes this: ‘Revenue is vanity, profit is sanity, cash is reality.’ It underscores the fact that generating cash is fundamental for the long-term survival and growth of the business. Founders may look towards a sale of the business, but businesses need cash to run day-to-day operations and fund investments.”

Interviewer - How do problems with cashflow arise, and what can companies do to prevent them?

“Cashflow problems come in all shapes and sizes, but what’s important in every case is to understand the root cause, which is often one of the things EFM Associates like me help clients with.

Generally speaking, cashflow problems have one (or more) of these common causes: poor profitability, issues with working capital, capital investment requirements, and the overall longer-term funding of the business, including investment by, and dividends to, the owner.

Interviewer – OK, let’s start with a profitable business, then.

“A profitable business, by definition, has a reasonable amount of incoming cash in the form of revenue. But it’s important to look closely at working capital – this means how quickly you get paid for what you sell. Are you billing customers quickly enough? Are they paying quickly enough?

EFM FDs like me resolve issues with working capital by helping businesses to, for example, set up automated invoicing and invoice chasing, and develop clearer and more vocal contractual language around payment terms (particularly important for smaller businesses).”

Interviewer – What about dealing with late payers?

“Late payers are problematic for cashflow, and we can provide credit control services to help with that, but it’s also important to understand customers’ payment cycles and find ways of working with them.

They may not be late payers but long payers, with, 60- or 90-day terms, or payers who only ever pay at the end of the month and not before. If these are their stated ways of doing business, chasing them for earlier payment will be a waste of time, energy, and resources.

It's better and more effective to seek advice from an FD on measures like invoice finance, which improves your cashflow by getting you paid earlier, in return for a reduction in the total amount payable.

There are a lot of different invoice finance offerings, and a good FD can guide you through them and help you pick the best one.”

Interviewer – What else can profitable businesses do to improve their cashflow?

“Look at how quickly you pay your suppliers. Establishing good credit limits with your suppliers can make a real difference, as it slows the need to part with your cash.

For manufacturing businesses and similar, keeping close control of inventory and stock is also cashflow-critical. It’s best to hold as little stock as possible, without harming availability for sale. More frequent deliveries, but of less stock – the so-called Just-In-Time (JIT) approach – can free up cash.

These businesses also need to take into account capital investments (e.g. in machinery and vehicles), and where the money for these is going to come from.

Happily, there’s no need to pay upfront – various asset finance and vehicle leasing packages are available, and the FD can steer you to the best choice for your business.

But these options are dependent on a healthy credit rating, so keeping up with payment arrangements with both suppliers and HMRC is a must.”

Interviewer – What about tax liabilities and dividends?

“Corporation Tax and other taxes (e.g. VAT) can hit cashflow, but HMRC does offer some scope for negotiation to pay in instalments. 

Maintaining sustainable owner dividends is also key to ensuring cashflow doesn’t dip below where it should be, and as an EFM FD I work very closely with owners to help them understand how much cash they can realistically afford to take out of the business in this form.”

Interviewer – That’s profitable businesses covered off – so what are the critical cashflow issues in non-profitable businesses?

“A lot of the time, this is about new pre-profit businesses (or even pre-revenue). Take a software start-up, as just one example. It needs cash to develop its product, market it, and pay a sales team to sell it. In FD-speak, it has ‘costs ahead of revenue’, and not enough customers to cover those costs, so its cashflow will be coming principally from funding and investment.

This is where the concept of the ‘runway’ becomes important. This is the amount of time the company has left before it runs out of its investment and funding cash, and any additional cash it generates through sales.

My role as an FD here is threefold. Firstly, to help the company secure further external funding and investment to boost cashflow.

Secondly, to understand the reality of how long it will take to win new customers and to make sure the business is spending money sensibly on that time scale.

And thirdly,  ensuring the business has given itself enough time to get to the next round of investment before it reaches the end of the runway.

Interviewer – Can these companies take any steps to minimise their cash outgoings?

As with profitable companies, HMRC deferrals and instalment payments are also in scope here, as is paying other creditors in instalments – but you must communicate clearly, openly, and honestly with all these parties, upfront.

Interviewer – We’ve spoken a lot about watching cashflow closely - where does forecasting fit into this?

“Whatever kind of business you are, having a cashflow forecast is critical. Realism is a lot more useful than optimism, and realistic cashflow forecasting enables you to make sure that if things don’t go to plan, you’ve still got ‘wiggle room’.

A good monthly (or sometimes even weekly) forecast is a solid basis for this. It should answer questions like: do you know what you’re selling and paying for in the next six months, and when? What are the patterns of payment in the month (when do things like HMRC liabilities and payroll fall due, for example)?

Seasonality can also be really important, depending on your business type, and very seasonal businesses should forecast at least 12 months ahead). A good FD will understand the seasonality of your sector, and factor this into the cashflow forecast.”

Interviewer – Presumably, the right choice of software can also help considerably with cashflow forecasting?

Yes, software can help greatly – Enterprise Resource Planning (ERP) systems in larger businesses or good software add-ons to popular accounting systems for smaller companies. 

Any software you use needs a champion to ensure it has the right inputs and data. It’s often not the cost of the software that’s the issue, it’s the cost of making sure you’ve got the people to ensure the inputs are as they should be – and here, again, an FD can help.

For more information on how EFM can help you optimise your cashflow and drive your business’s performance and growth, get in touch today.