Fixin' to Hunt Up Some Cash

I had just started work for a company with cash flow problems when the assistant controller presented me with a list of invoices to be paid.  When I asked her how she intended to pay them she responded, "I figured you were fixin' to hunt up some cash."  

Her response raises an interesting question “How many sources of cash can you name?”  This question normally elicits a list of external financing sources.  Banks, asset-based lenders, leasing companies and venture capital firms are some of the first to come to mind.  Often the best sources are less obvious and considerably less expensive.  Here's an example.

Client example

A client asked me to attend a meeting in which an equipment manufacturer outlined his equipment leasing program.  After the meeting, the client said that he preferred to purchase the equipment.  The only reason he was considering leasing was that he was concerned about the relationship with his bank.  He had been to the bank frequently in recent months and felt that another loan request might damage that relationship.

With those facts in mind, I examined his balance sheet looking for alternative sources of funds.  The result?  We were able to finance half the purchase price using previously uncollected interest on coupon bonds.  The balance was borrowed from the cash value of his life insurance policies, at the bargain rate of 5% per year.  

Most business owners have similar untapped cash reserves.  Many are overlooked because they are not an integral part of the daily operation, others because the underlying assets are less liquid.  Whatever the reason, these reserves represent valuable financing alternatives.

Huntin’ cash

You can locate these reserves by reviewing your balance sheet from a cash flow perspective.  Examine the life cycle of each asset; determine at which stages in the cycle the asset can be converted to cash and how that conversion can be made.  Be creative!  Use your talent for spotting opportunities to assist you in developing this list.

Don't exclude an asset simply because it is security for a loan.  Many companies have pledged more collateral than necessary to secure the loan.  Excess collateral occurs where growth in receivables and inventory outpace the growth in the credit line.  Similarly, the appreciation of an asset such as real estate when coupled with principal repayment, results in over-collateralization of the loan.  Even equipment, which depreciates in value, may be available as collateral if you opted for an aggressive repayment schedule when you acquired the asset.

Once you have completed your list, examine the conditions under which each asset has its greatest value.  

• Equipment will have greater collateral value in an economy where plant utilization is nearing full capacity.  
• Real estate is typically more valuable when long-term interest rates are low and less valuable when those rates are high.  
• Receivables and inventory lose some of their collateral value when tight money reduces sales and slows receipts.  That’s when the quality (collectibility) of receivables declines and the risk of inventory obsolescence increases.

A systematic approach

At least once each quarter review your balance sheet from a cash flow perspective.  Here are some questions to ask yourself or your accountant about the various assets your business owns.

Cash - How much cash do I have on hand?  How much do I have in money market accounts, CDs or other short-term investments that tap quickly?  Are these reserves adequate to cover my cash flow needs for the coming quarter or six months?  If not, how much cash do I need?

Accounts receivable - My accounts receivables range from $_______ to $_________ during the course of the year.  What is the maximum limit on my credit line?  Is this less than 80% of my typical accounts receivable balance (exclude any receivables that are 90 days old or older, banks won’t lend on them)?  If so, I may have an opportunity to increase my credit line.

Inventory - Banks will typically only lend on raw materials and finished goods inventory, not work in progress.  The maximum they’ll typically lend is 50% of the inventory value (cost, not sales price).  Is my inventory being used as collateral on my line of credit?  If so, when combined with my accounts receivable total, can I increase my line of credit?

Real estate - Has the value of my real estate been appreciating or declining?  How much of the original loan have I repaid?  Do I have a second mortgage on the property?  When I compare the market value of my property to the outstanding debt on this property do I have additional collateral value that I can use in the future?  If the answer is “yes” and you’re in a low interest market it may be a good time to refinance.  If interest rates are high, you may want to set a target rate at which it makes sense to refinance?

Equipment - What’s the resale value of my equipment?  How does this compare with the loan balances remaining on this equipment?  Does the value of the equipment being used as security on these loans exceed $2 for every $1 of loan amount?  If it does, you may be able to refinance this equipment and free more cash.

In addition to investigating the financing arrangements involved with each of these assets, you should be looking at their utilization.  Ask yourself these questions?

Accounts receivable - Do I have an effective process for assuring timely payment from customers?  That goes beyond good collection procedures to identifying your ideal customers and eliminating practices that annoy your customers.

Inventory - How many times a year do I turn my inventory?  Is this faster or slower than the industry average?  What can I do to reduce inventory levels without sacrificing customer loyalty?  How can I generate additional sales without increasing the amount of inventory I carry?

Equipment - What volume of revenues am I generating with this equipment?  What volume could I generate given the equipment I own?  Do I have equipment that is idle more than 30% of the time?  If so, should I sell the equipment and outsource this part of the process, lease the equipment as needed or generate more sales?  

Real estate - What’s the trend in the real estate market in my area?  Are there early indicators that the area is declining or that interest rates are more likely to rise than fall?  Should I sell this real estate or simply refinance it?

As you can see there are many ways to generate cash within your organization.  There are also economic factors that affect the value of those assets and the timing of their use in generating cash.  

The next time you’re “fixin’ to hunt up some cash” use this checklist to help you generate cash quickly and inexpensively.  Better yet, make this a monthly or quarterly habit and you’ll always know where to turn when the need for cash arises, as it always does. 

Copyright © 2007, Dale Furtwengler, all rights reserved