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Berkonomics

When cash is tight – slow its flight!

We have discussed why never to run out of cash.  This insight delves into how never to run out of cash.  There are four basic ways to increase the cash position of a company:  inject cash through borrowing or investment, decrease spending or payments on debt, increase efficiency of operations, and increase revenues or advance payments from customers.

Even before examining the tactics of cash flow management, we’ve got to acknowledge that you never, ever should slip on payment of payroll taxes.  The temptation to do so in tight times is tremendous, but the liability for such taxes are personal to senior management as individuals and cannot be waived or negotiated away.  I advise all of my companies to use an impressed payroll service, one that takes the taxes from your bank account along with the net payrolls each period.  I have a story about this for later in this insight.  A close second for the same reasons are sales taxes and income taxes.  Both of these take a bit longer for the appropriate authority to move to freeze accounts because the processes of doing so are more involved. But all forms of tax must be paid to avoid catastrophe, if not merely avoid 25% penalties.

[Email readers continue here…] Let’s examine decrease in spending first.  There are several classes of obligations and several types of providers within each.  Assuming that the company is not already on the “cash only” list from materials suppliers requiring payment to those just to keep the business flowing, then when cash is tight, payments to ongoing providers of necessary services or products must rise near the top of the list.  If there are several alternative suppliers of the same service that regularly deal with the company, then you have more power in lengthening payments to one.  Calling vendors when payment is due but missed is always appropriate and will buy the company time and good will.  But promises made must be kept, even if the amounts of payment are small.  Some people advise that a company make small payments of any size to most all vendors, stating that these will keep the wolf from the door during tough times.  I agree, but spreading the cash prevents making significant payments to those vendors needed most for continuing operations, and the balance is worth careful consideration.

In general, next in line are those that charge stiff penalties for late payment, including landlords and credit card companies.  Often last are the lawyers and accountants who protect you and help you to plan your recovery, only because they above all others are vested with you in your recovery and success.

Accelerating revenues comes next.  Close supervision of delinquent receivables is time-consuming but absolutely necessary. There are statistics that show clearly that the likelihood of payment drops quickly as receivables age beyond terms.  And I’ve seen many company receivables clerks do a stunning job of collecting right on time by calling a few days ahead of time to check on the progress of a pending payment.

Thirty years ago, I stretched to buy a new home for my family that was above my ability to borrow at the time, but a bargain in a fast-rising market.  My solution, aside from a first and second mortgage, was to call a number of my best customer CEO’s, explain the problem-opportunity and ask for early payment of receivables.  I promised each and later delivered a boatload of extra value for that evidence of good faith.  As I recall, every one of the CEO’s agreed to advance payments, and I did reward them with extra services.  What may have seemed as a sign of weakness turned into a long term celebration of mutual trust and respect among peers.

Many companies have recurring revenues, often billed in advance, for maintenance or other services.  Merely sending out the invoices for each period’s pre-billing up to a month in advance of the start of the period will accelerate cash flow considerably.  Many companies ask for deposits before performing services. Increasing the percentage of a contract as deposit is often unquestioned by small to mid-sized customers.  Large corporations, those probably most able to pay such deposits, are usually the first to push back, often quoting “policy”, whatever that is, as the authority preventing compliance with such a request.

I promised a story about payroll taxes, and it is not a good one, despite the best of intentions.  One of my companies where I serve as chairman used a payroll service company that impressed payroll taxes along with payroll employee direct deposits and remitted those taxes directly to the authorities.  Well, almost.  One quarter, the company just did not receive its copies of the quarterly reports.  I had wisely suspected this payroll company already and had the company switch to QuickBooks Payroll at the start of the new quarter.  It turns out that the two founders of the small payroll services company absconded with (stole) all of the taxes from all of their payroll clients from mid-May through end of June that year. Since no tax authority notified any clients during those weeks no-one was aware that the money was gone and forms never filed.  Millions were stolen.  It is now years later, and our company as well as others have double-paid all the taxing authorities those missing taxes, including interest, but with penalties waived. The two founders are in Federal prison and about five percent of the missing funds were recovered by the Justice Department and returned to the companies.  So it seems that even conservative cash tactics such as using an impressed service for payroll can lead to disaster.  Who knew?

Now we turn to the more pleasant issues relating to growth, and explore some of the areas rarely considered when the rising tide lifts all boats.  Those of us who have experienced exhilarating growth have stories to tell that make it obvious that the thrill of the wild ride makes the effort more than worthwhile.  But growth has its issues too, and it is time to explore these.

  • Michael O'Daniel

    To all the solid advice Dave has laid out here, I would add one more: DO NOT factor your receivables! (I don’t know if this practice is still in effect, or if it applies to the software business, but it was very prevalent a few years back.) The private banks that factor your receivables charge 22-30% interest and only pay you on 80% of your receivables instead of 100%. And the deeper in hock you get to them, the more they start running your business. I was with a company in the graphic arts business that was cash-profitable (at least on paper) during a very challenging time when that industry was going through a tremendous upheaval due to desktop publishing. We had adjusted our business model and were starting to turn the corner when the factoring bankers pulled the plug on us. They dictated a certain move to our CEO and he chose not to make it (what they had dictated was actually a sound move business-wise, but personal relationships and loyalties took precedence).

    Yeah, and we were always in hock to the IRS and the State Board of Equalization as well… contrary to Mr Thordarson’s experience, my recollection is that both of them caught up with us in 3-6 months time rather than a year (maybe we were on their “watch list”).

    The best advice I can give anyone in financial straits, and this is a positive takeway from working with the above-mentioned CEO, is that you MUST communicate with everyone involved — vendors and employees. Your creditors will be much more forgiving if you keep in constant communication, honor your promised pay date (even if beyond the usual 90-120 days), and if you find you can’t meet your previously agreed-upon schedule, call and negotiate for a new dates. As to employees, if they understand that there is a choice between paying certain vendors and/or paying withholding taxes in order to keep the company afloat, or otherwise going out of business, they may sometimes agree to work with you. Yes, you do have to pay your employees first, ahead of everyone else, but they have been known to make exceptions if they believe strongly enough in the future of the company AND they trust that they are getting a fair deal from the leaders of the company — particularly if the leaders are also foregoing or delaying their own paychecks. (As is often the case with startups.)

  • We got burned some time back by a payroll firm that did the same thing and absconded with cash meant to pay payroll taxes. Fortunately we sensed things were not right and switched after one quarter like you did. We only lost about $200k. That is a lot of money, but it could have been worse as most victims lost a whole year of taxe payments. It takes the IRS that long to figure out no payments or forms have been received. The total take by the principal of this firm was about $18m and most of it was spent on gambling, escorts and cars.

    The IRS and Sacramento are unforgiving and short on patience. Insurance will most likely not pay for this loss as you “wrote the checks” to the thief yourself so to speak.

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