Small Businesses and the Credit Crisis

How are small businesses weathering the credit crisis -practicing cash management and maintaining cash flow? What does this mean for your business? It is now more important than ever to keep an eye on working capital for business needs. Below is some guidance for now and the future.

1) Those businesses that have built and now maintain strong relationships with their respective bankers or other financing entity initially encountered few, if any problems, at the beginning of the credit crunch. However, as banks encountered more difficulties with access to capital and their own cash flow, a number of these business customers have also experienced some issues with their bank. Yet, it is in times like these that a strong relationship and a good communication program eliminates surprises and helps enable companies to weather their internal ups and downs or their lender's tightening standards.

 

2) Yes, it is harder for small companies to obtain bank loans. Many small banks, which often finance residential builders, have been hit hard by the drop off in residential construction and sales and some large banks have encountered serious issues from bad mortgages and the resulting impact on the financial markets. As a result, cash flow has ebbed and credit standards have risen. The good news is companies that qualified easily before, still qualify but at lower amounts. And the alternative sources for cash flow - accounts receivable financing, equipment financing, bartering, economic development loans, etc. - are still plentiful if people know where to look.

 

3) In general, B2B businesses outside of directly impacted industries (i.e., do not serve mortgage brokers or residential builders) are experiencing less pain that B2C. Consumers are spending less but companies are still spending although how much they spend and where is shifting. Companies that traditionally focus on great service for good value are doing better than those that focus on being the low cost provider to the exclusion of anything else.

4) Businesses can weather a downturn if they focus on tightening up their fiscal and other operations, practicing strong cash management, strengthening ties to and seeking out various financing sources, and providing strong customer service and support. All of this will ensure the company has sufficient cash flow - enough working capital for its business.

Birthing the Business: Entrepreneurship

by Tiffany Wright

Many of those who are starting businesses and those of us who own businesses sometimes get stuck in the "what to do next". Birthing a business or growing a business can be difficult. We head into it with passion but sometimes that passion wans. Below I offer some tips to keep the ebbing to a minimum, constantly rejuvenate, and maintain the focus and passion needed to recruit employees, negotiate with bankers, or simply to experience joy when awaking each day:

1) In order to create anything, you must first envision it in your mind. If you focus on your vision and take action every day towards that vision, you will eventually achieve it. However, mistakes are inevitable - sometimes devastating mistakes - but it's the tenacity and the continual learning and modifying the roadmap that gets you to your goal.

 

2) If you are having difficulty weathering the ups and down, I highly recommend you join a Chamber of Commerce, Rotary Club, or other club with a high number of entrepreneurs among the membership. You can find someone to discuss your issues with or hear the problems others have, both of which allow you to put your problems in perspective.

 

3) Read books and listen to tapes about entrepreneurship and entrepreneurs. You will find that many highly successful business owners have been through bankruptcy or other financial distress, have nearly called it quits, have "failed" miserably at one business only to start or buy another and do amazingly well. Do not operate in a vacuum or listen to all your job-holding friends and family who tell you to give up. Believe in yourself and strengthen your resolve by tapping into the resolve of others.

Calculating Cash Flow

By Tiffany Wright

As I have stated and restated in previous articles, cash flow and management of that cash flow is essential to the health and viability of your business. Most small businesses typically prepare Income Statements and Balance Sheets on an annual basis for tax purposes, sometimes on a quarterly basis for quarterly tax payments. Businesses that have bank lines of credit or term loans must usually prepare and present these same financial statements monthly so that the bank can track the company’s general performance and continued adherence to loan criteria. Most businesses do not create or track a cash flow statement. In any economic environment, cash is king. For capital intensive businesses such as real estate development or renovation, heavy construction, or over-the-road transportation, the timing of cash inflows and outflows can be critical to the success of a business during any 3-month cycle.

In this article we will focus on calculating cash flow. In the next two articles, we will cover how to prepare a cash flow statement and cash management techniques. Understanding cash flow statements and these concepts is important not only for business owners but also for those executives and managers with profit and loss responsibility at any level.

What is cash flow? Cash flow is a measure of the amount of money your company makes or brings in through various sources and spends during a given period in operations, financing, and investing. Cash flow is frequently used as a barometer of your company’s health.  It is the barometer in cash intensive businesses. Calculating cash flow accurately is vital to ensuring that your company has sufficient funds to operate.

What is cash flow? Cash flow is measured in a number of ways to provide various performance parameters of the company. There is the cash flow that the company tracks (or should track) on a daily, weekly, quarterly, and annual basis. This cash flow is tracked in the Cash Flow Statement.  Another cash flow measure is EBITDA - Earnings Before Interest, Taxes, Depreciation, and Amortization - determined from the Income Statement.

What is cash flow? The cash flow definition, according to the American Heritage Dictionary is “1) The pattern of income and expenditures, as of a company or person, and the resulting availability of cash.  2) The cash receipts or net income from one or more assets for a given period, reckoned after taxes and other disbursements, and often used as a measure of corporate worth.” The cash flow definition, according to Wall Street Words: An A to Z Guide to Investment Terms for Today’s Investor by David L. Scott is “The amount of net cash generated by an investment or a business during a specific period. One measure of cash flow is earnings before interest, taxes, depreciation, and amortization. “  It continues, “Because cash is the fuel that drives a business, many analysts consider cash flow to be a company’s most important financial statistic.”

Understanding cash flow lets you assess your financing and borrowing needs; appropriate timing of hiring and major expenditures; effect of receivables timing; payables timing; general and strategic cost-reduction efforts. 

Even a small lag in sales or payment receipt on a large product or service delivery can make a dramatic negative impact on cash flow. If you spent $50,000 delivering a service (personnel, materials, equipment rental,…) and expected payment of $65,000 at culmination of the service but payment is delayed by 60 days, the company must float the $50,000 from other cash sources and the $15,000 extra you had counted on as a buffer for another project is gone.

If you have never tracked your company’s cash flow, then start today. If you utilize Quickbooks, begin generating the Cash Flow Statement in the Reports section and populating the necessary fields with data. If you’re unsure how to proceed, use the tutorial, find a tutorial online, or ask your bookkeeper or accountant to provide you with a tutorial. Or, of course, you can have your bookkeeper or other knowledgeable employee begin inputting the data. Find the break-even points for your products or services.

Have your key employees determine the cash flow projections from their departments.  Combine these projections with yours to create the overall company projections.  Project out your cash flow needs for three (3) months, six (6) months, 1 year, and 3 years.  Some financing can take several months to obtain and other sources of financing can take up to one year so advance planning is extremely helpful. Com

pare your actual cash flow experience (i.e., quarterly Cash Flow Statement) against the projected or pro-form cash flow statement every month or quarter. Over time, you will improve the accuracy of your projections.

Tiffany Wright is the publisher of Equal Construction Record and owner of Toca Family Services, LLC, which provides interim management and project-based financial management services to small and medium businesses. She can be reached at twright@equalconstruction.com. This article is copyright protected.  All rights reserved©.

PERSPECTIVE ON THE ECONOMY AND ITS BUSINESS IMPACT cont'd

cont'd

By Tiffany Wright

Residential home construction typically precedes commercial retail construction. Retail centers need people who live in the area to patronize their establishments. Many retail entities followed the same rapid expansion as the residential construction. Those with the most aggressive expansion campaigns with the most debt or undervalued land holdings have been impacted the greatest. Thus, the dropoff in the commercial retail sector is large and expected to increase. Most of this dropoff is / will be felt in the outer suburbs of Atlanta where the plummet in residential construction is the greatest.

Three years ago, for a former client, I contacted 20 different condo developers in the Atlanta region to inquire about partnering. It was a highly informative endeavor. I learned that some developers were quite bullish on the Atlanta area, while others thought the high-end condo market would tank soon and that the mid-range condo market would be hit but could withstand the shock. Still others were down on the market overall and had begun to expand into other more viable (their words) markets until the downturn came and went. They discussed what areas were the most viable for condos (i.e., Buckhead, Midtown, Centennial Park), what others were more questionable (Old Fourth Ward, Poncey-Highlands), what pricing points could be supported, and what amenity levels were needed to hit the target buyers and how much those amenities cost. When you need research, there’s no better source than your suppliers, customers and competitors.

As a result of these interviews, I anticipated the slowdown in the condo market. I also anticipate, like the developers I interviewed, that many condos will rebound quickly in key areas because the underlying assumptions still hold. Thus, those construction companies that do a lot of condo work are experiencing a slowdown now and likely through much of 2009 but the work will begin to increase again in 2010. Financing may be more of an issue than demand for the condos.

The point of this article is to provide those who may not have great access to research reports - which can be very costly although sometimes well worth the money - quarterly research updates, and monthly summaries with the key to accessing information. Spend time talking to your customers about their business and the outlook for their business. If you are a subcontractor far down the line with few strong relationships, start building them. In difficult times people turn to low-cost providers AND to those whom they trust to get the job done well – on time and on budget. Many of those that compete only on price go out of business in an economic downturn. They have no real connection to their customers, they have shoddy operations and poor customer service. If you want knowledge on a budget, talk to your customers or their customer or the owners – go up the food chain if you must. You need to know and understand what’s driving your market. For real, not what all the experts and pundits who don’t know your specific business and circumstances. Not only will this knowledge help you plan and adjust your business, operations, and financial management accordingly and thus strengthen your bottom line and increase your net income. It can also build your relationships and thus strengthen your top line and maintain or increase your revenues.

You can sing the blues about the economy or you can try to understand what’s driving  the impact on YOUR business – YOUR customers, YOUR suppliers, YOUR competitors. You can empower yourself and your employees to think differently because if you’re business is suffering, your old way of thinking and doing things is not working.  If your sales have slumped, you can think of that as an opportunity to build a stronger, more viable business. Start marketing. In a down economy, many companies cut marketing first to save money. Therefore, you now have less competition for eyes and ears. You stand out more and convey size and strength when you market while your peers are silent. Get a handle on your cash management. Make sure that you keep your accounts receivables as close to 30 days outstanding as possible. Follow up (nicely) on a consistent, systemized basis. Streamline your operations. Install or upgrade computer systems. Shift personnel. Focus on what you can do and do it. Empower yourself and your employees to strengthen your bottom line and thrive in any economic environment.* 

Tiffany Wright is the publisher of Equal Construction Record and owner of Toca Family Services, LLC, which provides interim management and project-based financial management services to small and medium businesses. She can be reached at twright@equalconstruction.com. This article is copyright protected.  All rights reserved©.

PERSPECTIVE ON THE ECONOMY AND ITS BUSINESS IMPACT

By Tiffany Wright

Have you wondered how, when you read about the quarterly performance of publicly held companies, the revenues could shrink but net income would be up? Sometimes this is simply due to the recognition of a one-time large expense for layoffs, asset writedowns, acquisitions, etc. in the previous quarter that does not repeat in the following quarter. For many others, however, the company either lost customers or customers did not buy as much as they did previously, thus resulting in a dropoff in sales. Having foreseen this, the company re-focused its attention on its operations and the accountability of all its various departments and reduced costs and increased efficiency and productivity. These activities reduced fixed and variable costs resulting in a significant reduction in expenses. This drastic decrease in expenses more than offset the decrease in revenue, leading to an overall increase in net income. In the current economy where there is a lot of pressure on top line revenues, such an occurrence is a good thing.

Yes, the economy is suffering. Many economists and other pundits constantly weigh in with their speculations on what will happen over the next one to two years, how long it will take to “recover”, and how bad it will get. The level of negativity in the business and financial press is at an all-time high with daily dire predictions. However, as any good business person knows, all economies are cyclical. A time of expansion with rapid creation of goods and services and rampant building and development  is always followed by a contraction in which the pace of creation drops which then allows for the absorption of that which was created during the expansion period. When something is significantly overbuilt well beyond what the market can absorb, the contraction can last several years.

This happened in the telecom industry which rapidly expanded in the late 1990’s to accommodate demand from Internet companies that built out infrastructure based on projected customer usage. When that usage failed to materialize many Internet companies failed, dumping underutilized telecom capacity and used telecom equipment back on the market and bringing down many small, medium and a few large telcos in the process. The equipment was absorbed in a few years but the network capacity is still being absorbed.

How does that relate to commercial construction? In some areas of the country and the state residential construction has plummeted due to a confluence of factors. It is the reverse of the same perfect storm that created the residential building boom. In late 2005 many of my former real estate investment peers (I exited the market earlier that year) were complaining about being unable to sell or rent their renovated properties due to the high number of brand new properties on the market.  Hard money lenders began taking hits because the investors could not execute on their exit plans. In July and August 2005 I interviewed a number of large apartment owners in the Atlanta area, those with 2,500 – 10,000 units. The concensus was the same: Do not enter the market unless you can maintain a debt to equity ratio of 60%. Since most properties at the time were purchased with 80% debt financing, that was a strong statement. You either infuse a lot of equity into the property or buy at a very undermarket price. Why did they say this? Because interest rates were so low and so many builders were offering near 100% financing that their target apartment dweller could qualify for a loan with almost little down and have payments that were the same or less than what they had been paying in rent. One owner had a new 250-unit apartment complex in the near suburbs just outside I-285 that enjoyed nearly 95% occupancy. However, a developer purchased the land across the road and built a townhome community then directly solicited the apartment tenants. The 2-bedroom rent was $650; the 2-bedroom townhome mortgage payment was $599 per month with the introductory low interest rate.  The complex’s vacancy rate doubled. The complex reduced its rent to $595, included 1-month free, and added other amenities to stop the loss. This worked but obviously significantly impacted cash flow. Hence, the recommendations for 60% debt-to-equity.

Residential home construction typically precedes commercial retail construction. Retail centers need people who live in the area to patronize their establishments. Many retail entities followed the same rapid expansion as the residential construction. Those with the most aggressive expansion campaigns with the most debt or undervalued land holdings have been impacted the greatest. Thus, the dropoff in the commercial retail sector is large and expected to increase. Most of this dropoff is / will be felt in the outer suburbs of Atlanta where the plummet in residential construction is the greatest.

Business Start-Up Funding & Growth Funding Options for Small Construction Companies and Other Similar Business Service Providers

By Tiffany Wright

There are myriad sources that construction and other service companies can access when seeking funds to grow the business whether that is to broaden the geographical area, expand the array of services, or pursue significantly larger contracts. (Acquisition financing is not covered here.) I have covered many of these sources in previous articles. However, the question sometimes is, “What options should I pursue and in what order?” For construction and other service providers with a similar profile, the answer lies below.

Follow these steps to procure financing to grow your business

1. Personal finances.

2. Friends and family.

3. Banks. Typically a line of credit is what you’ll need for your working capital needs. If you are purchasing equipment, materials, and other assets, consider financing from the seller (distributor, equipment leasing vendor, or other supplier) and credit cards. For all other working capital needs – payroll and other payments in advance of payment from customers – the line of credit should suffice.

4. Credit cards. Refer to the bank discussion. Use credit cards to purchase office supplies and other materials.

5. Accounts receivable financing or factoring. If you have contracts or purchase orders or proposals from which you create invoices, and hence receivables, then accounts receivable financing may work well for you. As mentioned in previous articles, this can be expensive but is often a great short-term solution. Some receivable financing and factoring firms do not finance construction projects due to the reserves/retainers often contractually required.

If you are working on specific government contracts or with a specific government sub-agency, there may be dollars set aside to provide lower interest loans tied to the receivables from the contract. Ask. Investigate.

6. Microloans. If the amount of money you need is low (under $25,000) consider microloans. There are a number of microloan providers in the Atlanta metro area and throughout the state of Georgia.

7. Angel investors. If you have a rapidly expanding business or have a plan for one, an angel may provide the equity funds you need to grow your business. An angel that is actively involved in the business may also serve as a guarantor for a bank line of credit if your personal credit or your business credit rating is too low to qualify for a loan.

8. Joint venture.

9. Strategic investment.

10. Private equity. Business service providers such as construction companies, IT services companies, marketing firms, and business consulting providers (the list goes on) can only attract equity if and when they have a plan to expand regionally or nationally, occupy a strong market niche or have successfully differentiated their company from their competitors.

11. Private equity funds typically need a 20% or greater expected return and without the larger expansion plans and scope, a construction firm or other business services company will not provide the required returns. You cannot attract equity for your ten-person firm. However, if you have the management team, business development acumen, sales strategy, and operational foundation to grow the business to a 100-person or larger enterprise in a few years, private equity funds may be interested.

Construction firms tend to be small, local operations. Therefore, most firms will not qualify for any equity investment. However, if you want to make the leap from a small consulting type shop with historical revenue of $3 Million or less to one with $30 Million or more, you need to first create the vision and goals, then the plan to achieve those goals . If necessary, engage business consultants and coaches who can help you identify the company’s and your weak areas and put the things in place that will lay the foundation to help you achieve your goals.

If you only reached $3 Million in all of the last ten years, and now you want to make the jump to $30 Million in five years, you must address the huge credibility gap you are now burdened with. Utilizing consultants and coaches will get you there sooner. These entities can also help you write a plan that incorporates the necessary changes.

If you have been on the path to larger revenue from the beginning, then you do not have the credibility gap with an equity source. However, you must clearly understand and clearly communicate how you are different and how you will achieve revenues of tens of millions when the vast majority of your peers will never come close. This is not to discourage you but to simply help you understand what the investors’ point of view will be.
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All rights reserved.© Tiffany Wright is President of Toca Family Business Services, a strategic advisory firm that provides interim CEO and CFO services, and the publisher of Equal Construction Record. She is the author of Solving the Financial Equation: Financing Solutions for Small Businesses, available at Amazon.com or www.tocafamilypublishing.com. Please contact her at twright@tocafamilyservices.com.