Profit or Cash - which is more important?

Jim Stockton, Senior Lecturer in Finance at the Warrington School of Management (University of Chester), discusses profitability and liquidity planning – essential elements for every business to succeed!

Introduction

There are many reasons why these failures occur-some relate to the lack of a coherent business strategy, some to the absence of a focussed market research but many are simply due to the absence of some rudimentary financial planning, or to be blunter, basic budgeting. This brief article seeks to point out some fundamentals on this often neglected skill or to quote Monty Python the “bleedin obvious”!

Budgeting

Budgets are generally regarded as having at least five areas of usefulness:-

• Budgets tend to promote forward thinking and the identification of short term problems
• Budgets can help, in larger businesses to co-ordinate activity and ensure a common understanding exits on priorities-for example there is little point in the sales team aiming to deliver optimistic targets if the production team have a different aim in mind
• Budgets can motivate managers and staff to improve performance if “stretch “ goals are set
• Budgets can help control a business-simply put does actual performance, measured monthly, compare favourably or adversely with the budget?
• Budgets can also act as a means to authorise spending within a business

The purpose of this article is to concentrate on the difference between profit and cash flow or, put another way, highlight the fact that profitability AND liquidity are opposite sides of the same coin when it comes to business survival. Business may fail through lack of profitability but its running out of cash that actually sends them to the wall. Indeed it is entirely possible for a profitable business to go bust by failing to pro-actively manage cash flow (known as overtrading)

Profitability

Let’s consider some basics-business has to generate profit in the medium to long term-after all, in our capitalist society, that is what it is all about-why take the risk otherwise? Business entrepreneurs see an opportunity in the market place to launch a product or service and to do so in a way that will generate a profit possibly with an idea or expertise that others will find difficult to copy. A business plan can be developed around this which should be capable of being expressed in financial terms-in other words- a profit forecast based on the sales compared to the cost of those sales. All pretty straightforward so far hopefully.    This forecast or budget can and should be expressed over a reasonable time scale and should be as detailed as possible especially in the early days of the business-certainly for the coming year (broken down into months) and hopefully for another two years after that in order to give a reasonable perspective on the future of the business.. Let’s assume our small business compiles a profit forecast and that it looks reasonable-losses can be incurred in the early months as long as the longer term position indicates future profitability on a sustained basis. This profit projection can be enhanced by compiling a forecast balance sheet which will indicate:-

• The assets the business will own
• The liabilities it will generate
• The impact on the owners initial and subsequent investment

It is important at this stage to differentiate between the long term (investment in fixed assets such as premises, machinery and vehicles) and shorter term assets such as stock, debtors and free cash). Equally a distinction needs to be made between short term financing obtained by trade credit from suppliers and an authorised bank overdraft and longer term funding via a formal bank loan for example.

Cash flow/liquidity

It’s at this point where the cash flow forecast becomes important-even vital. Our profit forecast can and should indicate business profitability based on the assumptions made by the owner of the business. However the next question to be asked is how does this affect cash flow going forwards? Just because the profit forecast is positive does not mean that the business will generate a positive cash flow and enable the business to meet its short term liabilities which includes those nice people from HM Revenue and Customs as well as suppliers to the business. The profit forecasts need to be converted into cash flow forecasts that take account of:-

• Credit terms to be granted to customers
• Credit terms obtained from suppliers
• Stock holding levels to prevent stock outs but avoid overstocking
• Investment in longer terms business assets
• Use of any agreed overdraft facility
• Longer term financing facilities

Plugging this information into our cash flow forecast should reveal any problem areas regarding whether the business will run out of money or need to increase any of its financing sources i.e. additional overdraft facilities, a longer term loan arrangement or increased investment in the business from the owner. At this point, it should become clear whether the business has a chance of financial survival or whether a complete rethink is required concerning the business assumptions built into the profit forecasts. Sometimes numerous iterations are required (know rather grandly as “sensitivity analysis”) in order to arrive at a business plan that meets the business owners’ aspirations but is also grounded in commercial reality as far as the generation of cash is concerned.

Summary

This article is necessarily brief and skips conveniently over numerous issues in order to deliver a fundamental point-(remember Monty Python above?). Business must financially plan to in order to succeed and that planning must involve profit planning and liquidity planning. One without the other is a business disaster waiting to happen.  

  Jim Stockton, Senior Lecturer in Finance at the Warrington School of Management (University of Chester)    



    

Straightforward & quite useful read on starting a business RT @InCheshireMag: Profit or cash? Which is more important http://t.co/nHSnOqkj7I
— Matt@NooksYard (@NooksYardCider) April 28, 2014

Warrington Businesses set to benefit from the International Festival of Business

THE International Festival of Business 2014 will be held in and around Liverpool during June and July.

The aim of this event is to boost international business opportunities and focus on regions of the world; China, India, USA, Asia, Europe and South America during different weeks.

Sector themes include Energy, Finance, Logistics, Manufacturing, Maritime, Creative and Digital Industries, Science, Technology, Research, Education and Enterprise.

The north west is well-recognised for these.

This will be a huge event, with 50 days of workshops, presentations, expert advice and networking activities to attend.

The City of Liverpool will be putting on an extensive cultural programme too, to showcase itself as a leading business and leisure destination.

So if your neighbour in the big house next door is having a party then you’d better make sure that you have an invite!

Warrington businesses are well-placed to benefit from the opportunities which this event will bring.

Energy, Manufacturing and Logistics industry clusters lead, not only in the region but also internationally.

Warrington businesses should not only be attending, but should be putting themselves forward within workshops, on stands, displays, volunteering their expertise and raising their profile with the international attendees.

Let’s make it IFB Warrington.

Professor Lawrence Bellamy is Associate Dean at Warrington School of Management, University of Chester (Padgate Campus)

Do you feel like your business needs a boost? 

Ignite Business Club is a unique initiative set up by Warrington School of Management to help local organisations access the extensive network of expertise available at the University.

Find out more here

Can you hear the employee ‘voice’?

There has been a lot of interest in the business news recently around the idea of ‘employee engagement’. This is not a new initiative; it has been an agenda item for government and organisations for a number of years now writes Meryl Bradshaw.

The recent recession highlighted the need for organisations to create a sense of belonging and loyalty in the workforce, required to sustain retention of key skills and knowledge. The thinking behind this is that a feeling of belonging would maintain a sense of stability, even where pay-cuts/ freezes, and the possible threat of redundancy were present. Therefore, engaged employees are far more likely to support the management’s efforts to cost cut and where called for, do more for less.

Cultural Change

To move towards an employee engagement policy, management may have to recognise that cultural change is necessary, and to achieve this they need to work closelywith all staff members.

This common approach will be the starting point in establishing an employee voice, which is led by senior management and endorsed by line managers.

Indeed, it can be argued that the success of employee engagement is in the hands of well trained and committed line managers, to drive, guide and feedback to staff. It can therefore be justifiably stated that culture engages or in reality disengages staff.

When management recognise that the workforce needs to be ‘on board’ with the corporate vision through an engaged level of commitment, it naturally falls to HR to make this possible.

For example, HR can ensure that line managers have the right skills training to be able to support the policy. It is far more beneficial to have a line manager who can regularly communicate with teams, offering levels of autonomy, rather than being controlling with limited staff feedback.

Supporting this is the necessity to understand that job satisfaction is only a part of engagement, employees’ behaviour and their expectations fall in line with what they see and hear within their work environment. Managers then should acknowledge that staff and customer attitude is based on how they see themselves as being treated. Hence, if staff feel ‘engaged’ they will behave accordingly.

Staff Surveys

When an organisation has committed to an engagement policy, the question of

‘How do staff feel now?’ and ‘How can this be measured?’ arise. In order to answer these questions most organisations chose to identify the current levels of engagement. Again, this task should be led by HR and senior

management; how it is organised is again a management decision based on advice.

Many organisations choose to ascertain current staff attitude through a staff survey.

However, to make sure the responses are useful to the organisation, it is important to inform all staff of the reasons behind why it is being produced, and their role in

the process.

The responsibility for informing staff of the value of the survey and what staff can expect to get from it, again will come down to the line managers, HR, and in some cases the union.

Many companies chose to outsource the whole process of employee surveys to specialist suppliers; this does not preclude those who wish to maintain an in-house approach however, providing the skills are available to do so. If a supplier is the preferred choice, the company will need to work closely with them to ensure they are clear about their objectives and expectations for the survey itself. A pay-off in deciding to outsource is the acknowledgement of confidentiality for staff, thereby encouraging honest participation; this may not be so for the in-house survey.

The evidence of monetary investment in this process also affirms for staff, the commitment that management have to

the policy. The use of specialist suppliers allows benchmarking against comparable organisations, a useful resource for management decision making.

There are many different categories that

could be included within such a survey,

for example:

• Day-to-day working life

• Training

• Values

• Line management effectiveness

• Teamwork

• Flexible working

• Job clarity

• Workload

• Career development

These are generally fixed within three

discrete sections:

1. A demographic section

2. An opinion section

3. A space free for comments

Most surveys measure engagement by rating scales, which are answered by tick boxes, for example, strongly agree to strongly disagree.

Different systems can be utilised to distribute the survey, but most are now carried out online through the company

intranet, with employees being sent emails linked to the questionnaire.

The initial survey will enable management to identify areas for possible change / development within the company. The very fact that senior management are recognised as implementing such a scheme and the appreciation of why it is being introduced may well boost initial engagement.

Companies that have used a third part supplier can expect to receive a break- down of results.

These results are usually presented to the senior management team initially.

For example by ‘Headliners’ followed by departmental and then through the sectors, such as demographics.

Managers can chose to hold team meetings at local level to present significant results for discussion. It is important to review results with staff, enabling them to offer their thoughts and feedback to the management team. The evidence of action taken from the comments made is vital for the process of engagement to be recognised as upheld by staff.

It may be said therefore, that any company that is actively looking to support their employees’ engagement, needs to carefully consider what the core values of the organisation are, and how they are evidenced in the culture of that organisation. If there is any cause for concern, for example in internal communication, there are strategies available to help in securing a strongly committed workforce.

Meryl Bradshaw is Academic Lead and Senior Lecturer in HR at Warrington School ofManagement, University of Chester. 

Do you feel like your business needs a boost?

Warrington School of Management is launching Ignite Business Club on Wednesday 26th March  - an initiative designed to help businesses increase sales through: a business diagnostic, ongoing webinars and master classes, access to grants and a mentoring network. 

This launch event is free to attend and provides local business people with the opportunity to network and find out more about the Business Club. You will also get the opportunity to hear the inspirational story of local entrepreneur, Adrian Lomas who set up his business from a spare room in his house to grow it into one of the most successful digital agencies in the UK, with a multi-million pound turnover.

Book your ticket now

Success and Failure in Small Firms: Take a SMaRRT Approach

Small firms are the backbone of the UK economy; they account for around 99% of all
registered firms and employ 50% of all workers. Professor Lawrence Bellamy provides
expert advice on how small companies can ensure strategic success.

Despite decades of research on small firms, there is still a lot to learn about when it comes to success and failure. Whilst there are no easy answers, there are some indicators - common mistakes made and examples of good practice. Most of these can be linked back to strategic awareness and the ability to operationalise ideas. One way to consider these is to use the SMaRRT acronym:

STRATEGY

The ‘market’ is constantly changing. What worked one month may not work the next. Small firms don’t suffer from the ‘oil tanker’ problems that large firms do and, therefore, one of their key strengths is
adaptability (but they need to be alert to new possibilities). Trade magazines and journals often provide information on key industry changes and new technical developments; this information is useful but tends to be historical. The most up to date information tends to come from key customers and suppliers - by maintaining contact, you can gather data on a daily basis, enabling you to respond to market changes (but
you need to review what you are finding and check it with other information too).

Do your research!

Whilst it is important to deal with the day to day, it’s also important not to lose sight of the ultimate goal. Having a long-term vision allows you to view key decisions as steps towards an ultimate objective. Are
the things you are doing moving you in the right direction? As the business develops, your knowledge grows and the market evolves it may be reasonable to adjust your long-term direction. Whatever you decide, try to
make your offering distinctive. Why should customers choose you?

MANAGEMENT

Lack of management skills are often cited as the root of many problems when it comes to success and failure in small firms. It is an easy assumption to make, as you can always criticise a business after something goes wrong and blame the management. However, this area can be broken down into specifics - delegation
is a big problem for many owner-managers. They have started the business, built-up the customer base and probably done most of the roles within the firm. They hate to let go!

If it is a specialist task, then employ a specialist. Release your time to work on something else of
importance and which you are good at. Planning, innovation, budgeting, people skills and
managing risk are also important.

RISK

Manage the downside: in approaching any situation think about the risk involved and
how it can be minimised. Making a significant purchase? Could you dispose of it easily and what would it be
worth? Would it be better to lease? Taking on new staff? If the projects they are working on don’t go forward then can they be reallocated? Would you be better outsourcing that operation?

Get your planning right and reduce the chances of failure. Run through scenarios when making key decisions; if ‘A’ happens, how could we respond? Could we prevent this from occurring? Use specialist insurance if you need to. If you are lacking experience, then use a mentor to assist you. Build up your personal ‘knowledge bank’ and prevent yourself being ‘blindsided’ by an event; critical thinking skills are crucial.

RESOURCES

Finance, for small firms, is probably the largest single problem cited as a cause for failure. This can occur in a number of ways - liquidity problems occur simply because the time it takes customers to pay the firm is greater than the time you take to pay your suppliers (i.e. cash flow). In bridging the gap, firms fail to manage their debtors-creditor balance well and banks are often less helpful than they might wish for.

Small firms also tend to be underinvested; ‘make do and mend’ rather than invest in equipment which will make you twice as productive. Assess your investments carefully and look at the payback. Firms
really need to get a handle on what their fixed and variable costs are, especially in set up or growth phases when these can change dramatically. Monitoring and budgeting is crucial. When it comes to equipment (whether it’s for IT, your fleet or anything else), you need to have a renewal plan. Old kit is potentially unreliable and less productive than new. However, new kit depreciates quickly and financing costs can be high.

If you are running large premises plan your maintenance and if times are hard, you can leave replacement and renewal a little longer without too much detriment. People make your company perform well… invest in them. It’s not always about the money either; try to engage your employees by letting them try new tasks, recognising them with encouragement and personally engaging with them. Get to know your staff
and what motivates them - can you use the information within their job design?

TARGETS

Organise your firm through targets and measure them: new business gained, margin achieved, output levels, cost reduction, response time. Measure the things which matter, though. Break your business down into periods of operation and assign projects for completion within them, e.g. development of new products,
website update, IT upgrade, new area promotion, customer account review. Whilst running the day to day, projects will take the organisation forward. Cascade targets down to your employees and get them involved in the challenge, with appropriate support.

Ultimately, all owner-managers get to a point where they feel that it’s time for something new. So you also need to have an exit strategy. After all if you can be successful in one business, why not three
or four? There is always a right time to move on if you’re working SMaRRT.

Professor Lawrence Bellamy is Associate Dean at the Warrington School of Management, University of Chester Warrington (Padgate) Campus.

Do you feel like your business needs a boost?

Warrington School of Management is launching Ignite Business Club on Wednesday 26th March  - an initiative designed to help businesses increase sales through: a business diagnostic, ongoing webinars and master classes, access to grants and a mentoring network. 

This launch event is free to attend and provides local business people with the opportunity to network and find out more about the Business Club. You will also get the opportunity to hear the inspirational story of local entrepreneur, Adrian Lomas who set up his business from a spare room in his house to grow it into one of the most successful digital agencies in the UK, with a multi-million pound turnover.

Book your ticket now

Warrington's World Class Industry

Warrington's nuclear industry is world-class.

You can measure by expertise, key projects delivered, innovations produced, finances and demand.  When the Japanese Fukushima Nuclear plant disaster hit in 2011 Warrington firms were called.

The nuclear jobs market (with salaries typically at £35K plus for technical roles) indications the health of the sector. This industry has been built up through decades of research, training and project experience. However the success of the industry is not just about nuclear applications; the broader supply chain is also critical.

The Warrington area also has chemicals, petrochemicals, biotechnology, automotive and high tech manufacturing elements. These industries all need engineering, logistics, project management, process control, metrology, scientific research and many other specialist shared skills and expertise.

The supply chains of these clusters support each other and so when one declines the others can feel the impact. Nearby AstraZeneca and Hewlett-Packard (Birchwood) job losses mean a migration of expertise from the area, if employees cannot find jobs quickly locally. Success breeds success.

Warrington is part of the 'knowledge economy' and keeping the knowledge here is critical. So what can be done to make Warrington more attractive to investors?

Professor Lawrence Bellamy is Associate Dean at the Warrington School of Management, University of Chester Warrington (Padgate) Campus.

STOP PRESS:

The Warrington School of Management is launching an exciting new business service that will include events and ‘Master Classes’ to help small and medium sized businesses grow. If you are interested in registering for more information, or would like to come to our launch event on Wednesday 26th March please send your details to Beth Morris at ignite@chester.ac.uk