How to Build Cash Flow - Lesson 1: Solving the Business Number Mystery
Have you ever found yourself scrambling to pay your bills because there is never any money in the bank?
Have you ever experienced the pain of not having enough money to do what needs to be done, when it needs to be done?
Or, have you ever fought to keep your head above water just to survive in business?
If you have, you are not alone. Most businesses struggle to have enough cash because they have never been taught how to manage and build cash flow. Most business people are taught to manage profit. Very few are taught to manage cash flow.
To manage cash flow, you have to understand your numbers, interpret them and use the information to make informed business decisions. Too many business people are forced to guess when faced with making critical choices because they can’t speak the language of business, they don’t listen to the story their numbers are telling them and they don’t have a roadmap to follow.
Most businesses struggle to have enough cash because they don’t know how to understand, interpret and use the numbers in their business. These lessons will teach you how.
The Importance of Cash Flow
A mystery is defined as something that is difficult to understand. Sir Arthur Conan Doyle, a British writer, created the character Sherlock Holmes in 1887. Sherlock Holmes never used deductive reasoning to solve a mystery. Instead, he used inductive reasoning.
Deductive reasoning starts with a hypothesis that examines facts and then reaches a logical conclusion. For deductive reasoning to work, the hypothesis must be correct. Hypotheses are based on opinions, estimates or assumptions. Inductive reasoning starts with observations that produce generalizations and theories. Inductive reasoning forces you to ask questions. The answers to the questions form a pattern, and the pattern leads to solving the mystery.
The difference between deductive and inductive reasoning will become critical in our next lesson.
Most business people are taught to manage profit by leveraging their assets into profit. Very few are taught to manage cash flow by turning profit into cash. Making a profit is surely a good thing, but it is no guarantee of success or even survival. Every year, tens of thousands of businesses fail because they don’t have enough cash to stay in business. They ‘grew broke.’ If a small business runs out of money, it dies.
Lou Mobley was one of the fifteen-man task force that developed IBM’s first computer, and the creator and director of the development operation that forged IBM’s leaders. He maintained that “you can operate a long time without profit, but you can’t survive one day without cash.”
Cash flow is critical if a business is to survive and thrive. If you are going to manage and build your cash flow, there are several things you must know and do. The first of these deals with communication.
The Language of Business
Numbers are the language of business. If you don’t understand the language, you cannot communicate effectively, and there is no way for you to know how your business is really doing. If you don’t know how your business is really doing, you are forced to guess when faced with making critical choices. Guessing leads to wasting time, effort and money. Wasting resources leads to struggling to survive and thrive. You have to learn how to speak the language.
The language of business is universal. It cuts across all barriers. It is spoken by all industries, every industry sector and every business structure, whether a for-profit entity or a non-profit organization.
Your numbers give you the necessary information to make informed business decisions; avoid guessing what you need to do and when you need to do it. They speak to you in a language all their own. They tell a story. It’s up to you to listen.
Numbers Tell a Story – Your Story
Numbers measure your performance, productivity and profitability. To use these measurements to your advantage, you must receive accurate, complete and timely financial reports.
Your business is a reflection of the choices you have made, are making and will make in the future. Your numbers reveal the quality of your decision-making. If you want better results, you need to make better decisions. Your numbers can tell you what to do and when to do it. Knowing what to do and when to do it enables you to manage and build cash flow more effectively by avoiding problems instead of continually having to solve one problem after another.
By showing you what to do and when to do it, your numbers serve as your foundation for strategic planning. They show you the way to move forward confidently.
Your Roadmap for Moving Forward
Your numbers tell you where you are at any given moment in time and in which direction you are moving.
Your numbers let you know what is really happening financially in your business, why it is happening, and perhaps more importantly, what you can do about it.
And your numbers show you what to concentrate on and what to avoid. The Pareto Principle, better known as the 80/20 Rule, reveals that 80 percent of all your results in business are attributable to 20 percent of your efforts. Your numbers show you where to focus your energy so that you can achieve much more with much less time, effort and resources. So to manage and build your cash flow, you need to identify what really counts and focus on those things. In lesson two, we do just that.
Your numbers create a roadmap that will show you the way to move forward, but you have to know how to read the map.
A Look at Your Numbers: Reading the Roadmap
What can your numbers tell you?
Your numbers will tell you what you own, what you owe and what is yours to keep.
Your numbers will let you know if you are pricing your products and/or services profitably.
And your numbers will show you where your cash is coming from and where your cash is going.
Where do you keep your numbers?
Your numbers are kept in your financial statements. Think of your financial statements as storage units, where your numbers are permanently held in safekeeping. The financial statements that match what your numbers can tell you are:
The Balance Sheet, sometimes referred to as Statement of Financial Position, or Statement of Financial Condition.
The Income Statement, better known as your Profit & Loss Report, and
The Cash Flow Statement, which can be presented in one of two formats:
An Indirect Cash Flow Statement, or
A Direct Cash Flow Statement. [A direct cash flow statement is analogous to a checkbook. It shows you where the cash is actually coming from and going to. It organizes these cash flows into categories you’ll find useful in running your business. We will take a closer look at the direct cash flow statement in the next lesson. It is the one financial statement you really need.]
How do you interpret the story your numbers are telling you?
Your financial statements fit together like a jig-saw puzzle. Changes in one statement are reflected in another. By putting all the pieces together, you can trace cause-and-effect relationships. Together all the pieces paint a picture. The picture tells a story –– your story. Your job is not just to understand the financials, it’s to run your business. And to run your business, you need cash flow.
Your Income Statement is connected to your Balance Sheet through your Net Profit Before Tax. Your net profit must match the number reported on your balance sheet in the Equity section. In lesson two, we examine this relationship more deeply.
Your Cash Flow Statement is tied to your Balance Sheet through your cash totals. The ending cash position on your cash flow statement must match the amount of cash shown in the Current Assets section of your balance sheet. In lesson two, we will discuss this relationship in depth.
A note to remember: The very first thing you do when examining your financial statements is to make sure these numbers match up. If they don’t, you know there is a fundamental flaw somewhere on your balance sheet. And if they don’t match up, you can’t trust the numbers that are presented. Always remember this: the one thing you can never afford is to fool yourself. Get accurate, complete and timely numbers. Know what numbers are important, so you know what actions to take.
The Important Numbers
‘The only indisputable facts in any set of financials are the numbers that relate to cash. Only your cash and debt balances are facts. Banks recognize this and use these numbers to determine your performance.” Verne Harnish offered this observation in his book, SCALING UP! How a Few Companies Make It…and Why the Rest Don’t. [page 221]
His insight is profound. In lesson two, we examine the ramifications of this truth.
The important numbers in your business are:
Cash; and all the numbers that relate to cash and drive your cash flow.
Debt; the numbers that break it down and affect your business.
Direct Cash Flow Statement; the one statement you cannot do without.
Verne Harnish went on to say, “ your profit is an opinion, and data can be manipulated to provide a specific outcome. Your balance sheet is, for the most part, also an opinion. You can amend valuations to produce a desired result. Only your cash and debt balances are facts.” Our experience has borne out his wisdom. You can use this insight to help manage and build your cash flow. The following lessons will lead you step-by-step to help you struggle less and achieve more.
Your Takeaway
You now know that businesses struggle to have enough cash because they haven’t yet solved the mystery of their numbers. The more a business ignores its numbers, the more it struggles to survive and thrive. If you don’t listen to the story your numbers are telling you, you cannot make informed business decisions. You are then forced to guess when faced with making critical choices that will determine the destiny of your business. Your guessing will lead to wasted time, effort and money. And by wasting resources, you will find yourself struggling to have enough cash to do what you need to do, when you need to do it.
You now know that you need to:
Learn to speak the language of business
Understand the story your numbers are telling you
Create a roadmap that will take you from where you are to where you want to go
Get accurate, complete and timely financial reports, and
Focus on the numbers that are important and drive your cash flow.
If you act on these targeted objectives, you will find:
Your confusion about what you need to do is replaced with a confidence born out of your ability to make informed decisions instead of guessing.
Your frustration because nothing seems to work to make things better is turned into satisfaction that comes from knowing that things are moving in the right direction, and
The anger you feel because the outcomes of your actions are not meeting your expectations, needs or wants is transformed into composure because you are now empowered with the peace of mind resulting from being in control.
If you take these action steps, how will you feel about yourself? And, how would your life be different?
You can’t survive in business without cash. Without adequate cash flow, your struggles mount. With enough cash, you can do what you need to do, when you need to do it, to accomplish what you want to achieve. The question to ask yourself is: do you need to build your cash flow? If you do, here is your call to action.
Your Next Step to Move Forward
Take the time and make an effort to investigate our process in building cash flow. We have shared it with global corporations, small businesses and enterprising entrepreneurs. We are happy to share it with you as well. In the lessons that follow this blog, we will explore how to build your cash flow step by step. Take your first step moving forward by:
Contact us and ask for the following:
We have free self-help tools available to help you:
Understand and Interpret Your Financial Statements Guide – learn to speak the language of business.
Business Health Quiz – determine the current financial health of your business.
Running A Business Like a Business Ebook – a 91 page eBook detailing what you need to know to move forward
Cash Flow Story Case Study – reveals how bankers view your company and determine your creditworthiness.
Blueprint Action Checklist – shows you the financial reports you need and when you need them.
Self-Test – allows you to evaluate your areas of strengths and weaknesses by asking a series of critical questions you need answers to; if you are trying to build a profitable, cash-flow generating business.
Working Bibliography – serves as a vital resource for where to turn for help when you need it.
These tools can help you start moving forward in the right direction.
Ask for a free Cash Flow Story Report on your company using your numbers. We accompany this with a free consultation, reviewing your report together.
Purchase a copy of the three books that have helped us help our clients and those we have consulted with and mentored.
SCALING UP! How a Few Companies Make It…and Why the Rest Don’t, by Verne Harnish.
SIMPLE NUMBERS, STRAIGHT TALK, BIG PROFITS!, by Greg Crabtree, and
MANAGING BY THE NUMBERS, A Commonsense Guide to Understanding and Using Your Company’s Financials, by Chuck Kremer, Ron Rizzuto and John Case.
In lesson two, we will continue to solve the mystery of your business numbers.
