Business cash flow needs are part of the entrepreneur’s daily life. However, it sometimes happens that a leader no longer manages to face this problem. The situation can escalate and possibly cause a situation of default in the worst case. Fortunately, before getting there, several options can be used by the business owner to raise the bar: better cash management, reduced need for cash, or financing.
The cash requirement, also called Working Capital Requirement (WCR), is the money that the business needs to be able to function properly and cover its cash flow mismatches, corresponding to disbursements (expenses) and receipts (receipts silver). Why a business faces cash flow needs Let’s look first at why a business has cash flow needs. These are “normal” needs that concern the majority of companies. This is, moreover, an essential aspect of cash management for the manager. Payment period Payment terms are the daily life of certain companies which allow their customers to pay their invoices later (generally 30, 45 or 60 days): a customer receivable is generally not paid immediately.
While this is a common business practice, especially when working with large accounts or institutional clients, payment terms are not without risk for the company that grants them. In fact, to function, a company often has to make disbursements before it has been able to collect the receivable: purchase of stocks, investment, payment of salaries, payment of current charges, etc. This is what creates a need for cash in the business. Hence the interest in drawing up a cash flow table in advance to be able to anticipate your company’s cash flow needs. Poorly managed and poorly anticipated, this need for cash can put the manager on the wall.
Any immobilized stock generates a need for cash: the goods are paid for now, but collections will only take place when the stock is sold. For this reason, the stock must be optimized in order to best meet the needs of the company while “immobilizing” the cash as little as possible: improvement of the frequency of rotation, reduction of the quantity stored…
A business that wishes to develop may be required to make investments: equipment, workspace, IT development, etc. All these disbursements create more or less significant cash gaps in the business. Indeed, the company must disburse money immediately but will not reap the benefits of its investment until later. Establishing a rigorous cash flow plan makes it possible to better assess the impact of an investment on cash flow, and if necessary, to postpone said investment to avoid suffering a cash hole.
Seasonality can also generate a need for cash, especially when the company experiences a peak in activity followed by a period of trough. Thus, throughout the empty period, current expenses must always be paid by the company, while cash inflows are becoming rarer due to the decline in activity. The same applies to the approach of the period of intense activity: to anticipate a peak of affluence, the company must often increase its stocks and hire staff, which will punctually increase its cash requirements which will not be filled immediately due to payment deadlines.
The causes of an increase in cash requirements
If the first 4 points that we mentioned just before explain “structural” cash requirements, we will now focus on the causes of increased cash requirements. Growth crisis This is a case that can be faced by companies or startups that are experiencing a rapid increase in their sales. Indeed, the increase in sales generally generates an increase in inventories and customer receivables, and therefore an increase in the need for cash, which can be problematic if this growth is not anticipated, via a cash plan for example. To illustrate this, let’s take an example of a growth crisis. The Dupond company, which sells kitchen equipment, has just seen its order book fill up suddenly following the launch of a revolutionary new product. To meet the growing demand, management decides to hire several people and increase its stocks. Problem, the time to train employees and install new kitchens, cash requirements are increasing. The Dupond company finds itself in a paradoxical situation: an order book full to bursting but a need for cash so high that its reserves are not enough to cover everything.
Too frequent late payments and unpaid bills
Not to be confused with payment terms which are knowingly granted by the seller, late payments are the responsibility of the customer who will, for whatever reason, not settle his debt on time. The selling company therefore finds itself in a situation where it can no longer necessarily settle its own debts since it did not receive the funds it needed when expected. If there is no quick fix, some best practices can help limit the impact of late payments: Study the situation of the potential customer before granting them payment facilities: if the prospect is not creditworthy, prefer cash payment. Make realistic cash flow forecasts that take into account possible late payments: in your cash flow tables, anticipate possible late payments by shifting the cash flows
In the event of default, that is to say when the client refuses or is no longer able to pay his claim, several actions must be considered: reminders, formal notices and legal actions may be necessary in certain cases.
Suppliers no longer granting payment terms By reducing their payment times or even systematically requesting cash payment, suppliers can also increase a company’s cash needs. The gap between your outgoing (expenditure) and incoming (revenue) cash flow increases, as does your Working Capital Need. How to reduce a company’s cash flow requirements Now that we’ve taken a closer look at what generates cash flow requirements, we’re going to talk about techniques that can be applied by the manager to limit them, but most importantly to prevent them from jeopardizing the business.
Get paid quickly As mentioned above, if you have high cash requirements, one of the first things to do may be to reserve the option of payment terms to your best / biggest customers (those who order the most and are used to you. pay on time). On the other hand, do not hesitate to find out about your new customers to determine if they are known to be bad payers: if this is the case, demand cash payments each time to avoid finding yourself in difficulty.
Optimizing inventory management
If inventory leads to cash flow needs no matter what, optimizing their management can significantly improve tied up cash. This first involves a method adapted to the company: for example, a company which tends to have irregular sales of products would do better to opt for a method by point of order: as soon as the threshold of critical stock is reached, an order is placed. This therefore prevents warehouses from collapsing under the goods (that is to say “making the treasury sleep”) while avoiding a stock shortage. Rigorous monitoring of the frequency of inventory turnover allows the person in charge to better visualize the best times to order and possibly determine which products tend to sell better.
Forecast using treasury software While not all cash requirements can be eliminated, most of them can be anticipated! Good news, it is possible to do this very simply today. Drawing up a provisional cash flow plan is a great way to visualize future disbursements and anticipate a possible increase in the company’s cash needs. If potential problems are identified sufficiently early, the manager will be more serene to implement corrective actions without finding himself at the foot of the wall. However, it is possible that not everyone is familiar with Excel or simply does not have the time to devote to it. Agicap is an online cash management software specially designed for VSE and SME managers: intuitive and easy to use, it allows business managers to automate their cash forecast and to visualize future cash flows precisely, thanks to a bank account synchronization feature. Thus, bad surprises will become bad memories!
Get help from experts It is also possible that the manager cannot precisely identify the cash needs of his business or does not know how to cope.
No shame in that!
Business management is a broad and complex discipline which can sometimes be difficult to grasp on certain aspects, notably that of treasury. In this case, do not hesitate to contact an expert (management consultant, accountant, etc.). With his experience and knowledge, he will certainly be able (in the light of his calculations and the information you will make available to him) to advise you on the steps to follow in order to reduce your cash flow need to a level acceptable. Often a manager or former business owner, the management consultant can offer invaluable assistance by bringing his vision of things, based on his experience. If this type of service can have a certain cost (between 300 € / month and 600 € / month), its support can however allow you to make substantial savings, improve your profitability and deal with your cash flow difficulties. It is therefore an expense that can quickly pay for itself!
Cash requirements: how to finance them
When the working capital requirement is greater than the actual cash, the company must finance itself. To meet the need for cash, here are the main financing options that VSEs and SMEs can use. Classic bank credit It is a known financing technique that allows a company to have a certain amount of money loaned to it by a bank, for a higher or lower interest rate to be paid in return (in addition to the repayment of the loan ). This procedure can however take some time since any loan is subject to prior negotiation with a banker who will determine whether the company will be able to repay its debt.
It’s a quick and easy way to improve your business’s working capital. The commercial discount is a practice which consists in realizing a reduction on the invoice of a customer in exchange for his payment cash or before the date initially envisaged. The manager can offer a commercial discount to his client at any time, which makes the procedure extremely simple to set up: no administrative procedure is required to make it effective. The cash facility A cash facility is an authorization allowing the bank account to be in debt for a relatively short period (15 days continuously or 30 days discontinuously in general). The company, which is authorized to have its debtor bank account, can thus manage its cash flow requirements in a more flexible manner while waiting to receive the money from its sales on time for payment, for example.
The authorized overdraft
The authorized overdraft works in the same way as the overdraft facility, except that it authorizes the company to be overdrawn for a longer period (3 months maximum). Please note, whether in the case of an overdraft facility or an authorized overdraft, an interest rate (agios) is determined by the banker during the negotiation. A company that uses one of these two options must therefore be aware of the additional costs that will be incurred. Factoring Factoring is a financing technique allowing the manager of a company to sell part or all of his invoices for which he has not received payment to a specialized establishment (payment deadlines, delays, unpaid invoices, etc.). Called “factor”, the establishment will immediately pay the amount of the invoices assigned to the company and will take care of their recovery if necessary. So this is a good option for a company with many pending invoices that are hurting its cash flow. Leasing Leasing is a kind of long-term rental: a company that needs a high cash flow (buying a car to replace the old one) can avoid a big outflow of money by paying a monthly fee instead. On the other hand, the leasing contract is for a fixed term: the company undertakes to reimburse the leasing over the entire duration of the contract. For example, she cannot rent a car to “try it out” and announce after 2 weeks that she wants to end the contract if it is for 2 years.