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3 Best Tips to Improve Cash Flow Generation

by | Feb 26, 2020 | Finance & Accounting

Does your business have sufficient and consistent internal cash generation to fuel growth?

A company can get by with sub-optimal strategy, average personnel, even inconsistent execution, but not a day without cash. This is even more important when a business is trying to scale as growth eats cash and internal generation is critical to avoid balance sheet leverage.

Costco is a prime example; they made a unique move in charging a membership fee for people to shop in their stores. These fees account for 70% of Costco’s pre-tax earnings ($3.3 billion of the $4.8 billion in fiscal 2019), providing them enough cash for new store expansions and an enviable negative net debt position.

Cash Conversion Cycle is the amount of time taken for $1 invested in the business to return in cash inflow. A typical Cash Conversion Cycle (CCC) will have the following components:

  1. Sales Cycle
  2. Production & Inventory Cycle
  3. Distribution & Delivery Cycle
  4. Invoicing and Payment Cycle

These components exist in most businesses in some shape or form with minor changes in order of occurrence and/or overlaps. Spending time on analyzing inflows and outflows in each of these cycles by each function is a powerful tool to understand the main drivers and then set about altering them with the ultimate goal to shorten the CCC. Improvements typically fall into one of the following categories:

  1. Shorten cycle times by eliminating waste – from sales process to billing intervals
  2. Eliminate Mistakes – this is the #1 reason customers are slow to pay bills
  3. Change the business model – make your customers pay for your growth

In the mid-90s, Michael Dell was “growing broke” when his computer business had a CCC of 63 days. To counter this, Dell CFO, Tom Meredith, launched a program where he focused on one cash improvement strategy every 90 days. By creating this deceptively simple, direct to consumer model, that flew in the face of conventional wisdom, Dell reduced their CCC to negative 21 days within a decade. Inventory holding never exceeded 12 days and return on capital invested reached 167%, significantly ahead of their competition.

The key to improving CCC is a consistent focus. Some examples are:

  • Hiring an additional accounting person dedicated solely to sending out accurate invoices on time and following upon on payments
  • Customers pay faster by simply asking, and you should keep asking!
  • Develop personal rapports with customers’ accounts payable teams —early reminders, project or product quality health checks, etc.
  • Understand the payment cycles of each large customer and coincide your billing cycle with them. Bill more frequently if receipts do not precede outflows
  • Show the right level of appreciation to the right people in the chain, including giving back to customers who pay before time
  • Make sure all billing information is accurate the first time
  • Implementing clever workforce scalability strategies. Hire and upskill your people to be analytical decision-makers, outsource routine support functions, improve profitability and consequently, cash
  • Be disciplined about tracking and building cash savings daily. A minimum of 3x monthly expenses and ideally, 6x should be in the bank at any given point

At EXO Edge, we specialize in helping our clients deliver profit levels significantly superior to their competitors. To find out how EXO Edge can help, please reach out today to our team of experts.