Vistage UK interviews James Nicholson-Smith, Director, FD Centre
It probably sounds odd, but financial cash management in growth businesses needs to have grit and determination over the outcomes of the business. In terms of helping to achieve significant growth, how does cash management play a part?
James: Cash is a bit like oil and power in a machine. You can design and build an absolutely fantastic machine that changes the world, but without the power to make it start and the oil to lubricate the moving parts, it'll seize up very quickly. Parts will stop working and melt away to join many other good ideas and inventions that unfortunately litter history.
The second part that makes cash really like oil and power is that it doesn't sit in a silo. It becomes critical across the whole business. Effective cash management cannot be just a finance issue. In fact, you should probably extend the words cash management and call it cash and risk management, because cash management is normally the symptom at the back-end of bad risk management.
This is when good cash management is absolutely crucial. It comes down to the simple fact that, if you have a very working capital hungry business, with tight margins, then the smallest mistakes on your cash flow management can quickly send you to the grave. If, on the other hand, you have a very high margin cash positive business, then you can normally get away with more risk, more easily.
A final comment I would make is if you have a poor relationship with the bank or a conservative banking appetite, this can become a major constraint on business growth, especially for those working capital hungry businesses.
In terms of cash management then, when you're in a significant growth period or you're planning for significant business growth, what are the key factors, behaviours and best practices for SMEs?
- You need to have a really good understanding of the cash flow dynamics of the business. Typically this is achieved by using rolling, integrated, financial forecast models. It sounds technical, but unfortunately people tend to use very basic forecasting and then, wonder why it doesn't actually do the job.
- During negotiations with customers and suppliers, you need to have an acute awareness or your priorities in the negotiation. It's as important to think about the factors that affect the cash flow dynamics of that deal, as it is the factors that just affect the profit and the margin and the turnover. Unfortunately, that doesn't tend to happen.
- It's not just about cash management. It's about risk management. A famous saying from military strategies is "No plan survives first contact with the enemy." What he means is you have to consider all of the possible outcomes, prepare accordingly, and train your people to react under pressure and use their commonsense.
For good cash management you need the ability to not focus just on the outcome you want. You must focus on a much wider set of possible outcomes and prepare for a much wider sets of possibilities and probabilities. That's when risk management starts to creep in and becomes essential.
Could you say a little bit more about the rolling, integrated financial forecast? Can you give us a few clues on exactly what that is?
James: Look at the underlying trading activities of the business and at how that creates movements within the balance sheet, cash flow and the profit and loss account in the business. The advice is to continually update that forecast with the best possible information that you have available and also roll in the actuals on a monthly basis.
Good cash management requires you to stay on top of it, looking backwards, and forwards, looking at the cash flow, looking at the other working capital movements and looking at the profitability in sales performance of the business all in one document – one version of the truth.
What common failings have you seen in this area of cash management?
James: A common problem is when the MD focuses on a single optimistic outcome. When things go wrong, they're just not prepared at all. They panic and they make bad decisions when it's not going according to plan.
The second one is a poor relationship with the bank. Understanding that the cash flow is the oil and the power in your business means that you've got to have a good relationship with your bank, one that's going to be with through thick and thin. Unfortunately, many businesses tend to starve their banks of information, and are consequently surprised when they can't turn on the tap and help when times get a bit tough or when growth in particular starts to kick in. Banks like to see a constant stream of information on an ongoing basis.
If you had a group of Vistage members in front of you who were planning to go for a significant growth in the next two to three years what would you say to them?
- Model the cash flow dynamics of the business as it grows, and build in alternative outcomes. So not just your preferred outcome, look at the stuff that can go wrong.
- You've got to be able to educate and select a management team that has confidence in being able to operate effectively when it doesn't go according to plan. Quite often, FD's are critical parts of the team when it doesn't go quite according to plan. So they can handle the tiller. They're used to reacting under pressure and they use an awful lot of commonsense that most people take for granted, in some of the most challenging circumstances.
- If you are going into a period of very rapid growth a cash problem is a symptom of bad risk management. So think about putting in place some serious risk management processes and evaluations at the highest level. Don't think of it as just the FD's job. It's the management team's job and if you don't do that, then I'm afraid surprises will come up.
What are your comments and challenges in cash flow management? Speak to a Vistage chair now and take action.