The 137 Process (Part 2: Action)

From Awareness to Action: Building Business Cash Flow

The word ‘process’ is defined as a series of actions or steps taken in order to achieve a particular end. As a business owner, your targeted objective is this particular end. 

Most businesses struggle to have enough cash. However, we’ve developed a process that helps businesses build cash flow so they have enough to do what they need to do, when they need to do it, to survive and thrive.

In this blog, we’ll walk you through the second part of our three-step process.

The Steps

Part 1: From Awareness

1. The Business Reflection… Decision Making

2. Running a Business… Not What You Might Think

3. Looking at Your Business… Not 1, But 3

4. Separating Fact From Fiction… Only 2

5. Knowing What to Do and When to Do It… Reporting Rhythms

Part 2: To Action

1. Avoid Problems… Identify What Threatens Your Survival

2. Avoid ‘Growing Broke’... Navigating Through ‘The Black Hole’

3. Prepare for Unexpected Contingencies… Core Capital

4. Drive Profitability… Labor Efficiency Ratios and Salary Caps

5. Take Advantage of Opportunities… The Magic of Cash

Part 2: To Action

Step 6: Avoid Problems… Identity What Threatens Your Survival

WHAT TO KNOW:

Solving problems takes time, effort and money. Avoiding problems, instead of continually having to solve one problem after another, is a far better course of action.

To avoid problems your first step is to identify what threatens your survival. You need to know what to avoid as you move forward.

To identify what threatens your survival, the first step is to assess your strengths and weaknesses. You need to determine the current financial health of your business. And you must learn what to concentrate on, in addition to knowing what to avoid.

What to Remember:

The Pareto Principle, better known as the 80/20 rule, should be your guide to avoiding problems and learning what to concentrate your efforts on.

Simply put, the Pareto Principle states that not every action yields a proportional benefit. Some actions are more important than others and carry a greater reward. Your challenge is to understand which activities produce the greatest return for your business and focus your time, effort and money on those actions.

What to Do:

1. Critically analyze and evaluate your strengths and weaknesses. Know the current financial health of your business and continually monitor your progress and effectiveness.

2. Document where your cash is coming from and where it is going. Diligently track the changes in your debt position and monitor your interest and principal payments.

3. Develop a financial inertial guidance system to alert you of impending dangers, provide red flags when you veer off course and guide you on how to get back on track.

Step 7: Avoid ‘Growing Broke’... Navigating Through ‘The Black Hole’

What to Know:

A growing business depletes cash reserves. The most critical time in a company’s growth cycle is when they need to add staffing and infrastructure to continue to grow but can least afford to do so. 

Between $1 million and $5 million in annual revenue is what Greg Crabtree refers to as ‘the black hole’. (SIMPLE NUMBERS, STRAIGHT TALK, BIG PROFITS!) He adds that the most challenging level of profitability is between $2 million and $3.5 million in annual sales.

What to Remember:

You must have adequate capital reserves to grow your business. If you don’t have enough cash to fund your operations, you struggle to keep your head above water. If you run out of cash, your business dies. It happens every day, across the world. Cash flow is the lifeblood of your business. As Lou Mobley of IBM fame remarked, “you can’t survive one day without cash”.

An all-important truth, all too often overlooked or forgotten, is one stressed by Greg Crabtree. “You can’t get from $1 million to $5 million on borrowed money.” Those who have tried have failed.

What to Do:

1. Calculate how much capital reserve you need to get through your ‘black hole’. This determines your capital safety net.

2. Forecasting is critical. It is not sufficient to forecast net income alone. You must forecast cash flows and capital requirements as well.

3. During this period of time leave your profits in your business to fund your growth rather than relying on debt or investors. (Greg Crabtree)

Step 8: Prepare for Unexpected Contingencies… Core Capital

What to Know:

In growing your business you will hit unexpected obstacles. Preparing for those contingencies is vital to business survival. Your capital safety net can be defined in terms of your capital reserves, sometimes referred to as ‘core capital’. Your core capital target should be two months of operating expenses in cash, and nothing drawn on a line of credit. (Greg Crabtree)

What to Remember:

You need to stay current in collecting your accounts receivable, and with paying your suppliers and vendors. When unexpected obstacles arise, you need to have cash available to cover the contingent cost You have to learn to live on the cash side of the ledger, instead of the debt side. (Greg Crabtree)

What to Do:

1. Determine two months of operating expense (overhead) from last year’s financial reports. This number will be your targeted core capital.

2. Calculate the current amount drawn on all lines of credit.

3. Calculate your cash balances, including cash equivalents, from all accounts.

4. Subtract the total debt on your lines of credit from your total cash balances. This is your current core capital. It is not unusual for this number to be below zero. (Which is not where you want to be.)

5. Subtract your targeted core capital from your current core capital to calculate your capital reserves on hand.

6. The difference between your capital reserves on hand, and your targeted core capital is one of the most revealing numbers when it comes to determining the health of your business.

7. By tracking the changes in your core capital over time you will know in which direction your business is moving. Banks do this. You should too.

Step 9: Drive Profitability… Labor Efficiency Ratios and Salary Caps

What to Know:

Please pay close attention to what we are about to cover. If you don’t get this right, your business will continue to struggle. Labor productivity is your key to surviving the black hole. The teams that win are the teams that get the most productivity for every dollar of labor. Nothing of value happens without labor productivity. (Greg Crabtree)

What to Remember:

Labor productivity can be expressed in terms of labor efficiency. Labor efficiency is a financial ratio calculation that compares the cost of your labor to your gross profit.

Gross profit is the economic engine of your business. Far too many businesses focus on revenue, which at best can be misleading. Remember that the one thing you can never afford is to fool yourself. Concentrate on gross profit. 

Using gross profit most businesses across all industries can be compared side by side.

Remember: gross profit matters most when it comes to labor efficiency.

Determining your salary cap is the best way to maximize your labor productivity. Every business has a salary cap. If you don’t know what your salary cap is, you are operating at a severe disadvantage. Managing your salary cap is the key to improving your profitability. Labor productivity is profitability’s number one driver.

What to Do:

1. Divide your gross profit by your total labor cost. This ratio represents your labor efficiency. 

2. Track your labor efficiency ratio (LER) over time to monitor your progress. Your LER is one of the most informative numbers you can track.

3. Calculate your salary cap this way:

• The first thing to do is to determine where you want your net profit before tax percentage to be. Multiply your total revenue by that percentage. This will give you a dollar figure for your pretax profit.

• Subtract your pretax profit from your total revenue to get your total expense number. Your total expenses are a combination of non-salary expenses and your total salary wages.

• Next, determine your non-salary costs. This includes all costs and operating expenses minus salary totals.

• Then, simply subtract your non-salary expenses from your total expenses to get your salary cap. This is how much you can spend on total wages (the sum of all W-2s at the end of the year) and make the profit you need to make.

Step 10: Take Advantage of Opportunities… The Magic of Cash

What to Know:

By building and managing your cash flow you put yourself in a position to take advantage of opportunities that pass others by. Businesses that have cash, adequate capital reserves and no debt attract magical things. The opportunities that fall into their laps are just amazing. 

Building business cash flow so that you have cash to buy things for less than your competitors when times get tough, and money is tight is the backbone of entrepreneurism. (Greg Crabtree)

What to Remember:

For a small or growing company, cash flow is the very lifeblood of the business. For large, healthy companies, cash flow is the best way to test the quality of their earnings. Cash flow tells you if the abstract profits on your income statement are being converted into real money. (MANAGING BY THE NUMBERS)

What constitutes a healthy cash flow? The answer is one that is sustainable.

The key test of cash flow health is your operating cash flow, or net cash provided from operations. That number is found on your Cash Flow Statement.

Remember: the one financial statement you cannot do without is your Direct Cash Flow Statement.

What to Do:

When financial analysts look at a company, one of the first things they are likely to do is dig up the operating cash flow (OCF) numbers and apply these four tests: (You should be tracking these consistently.)

1. Is OCF positive? Once a company is past the startup phase it must have positive OCF.

2. Is OCF greater than net profit? It should be in almost every case. If OCF is smaller, you need to find out why.

• Is OCF greater than your fixed asset investment purchases? If it is, you are funding your growth internally. That indicates a stronger company than one that depends on outside financing.

• Finally, is OCF trending in the same direction as net profit? If profit is heading up while OCF is heading down, you have a problem.

Key Takeaways from Part 2

By taking the actions outlined in the PART II STEPS you should be able to answer these all-important questions:

• How do I know for sure how my business is really doing?

• What is really happening in my business, why is it happening, and perhaps more importantly, what can I do about it?

• Where am I at this moment in time, and in which direction am I moving?

• What do I concentrate on, and what do I need to avoid?

• How do I measure my performance, productivity and profitability; accurately and effectively?

• How do I avoid problems, instead of continually having to solve one problem after another?

• How do I know what to do, and when to do it?

Conclusion

The 137 Process: from AWARENESS to ACTION—Building your business cash flow, is a time-tested and proven approach to businesses having enough cash to do what they need to do, when they need to do it, in order to survive and thrive.

Is it the only way to build your cash flow? The answer is no. There are other ways to do it. The process outlined here is designed to give business owners the information they need to move forward confidently and grow their business, without overburdening them with too much information. The process is broken down into what to know, what to remember and what to do. It is a simplified checklist that can be used as a resource time and time again.

Your Call-to-Action

We have developed a collection of free resources to help businesses build their cash flow. If you would like to receive them, all you have to do is ask. You may contact us at:

• Our website: 137awareness.com

• Our email: info@137awareness.com

• Our phone: 405-657-6889