By Ian Ash
What is the most common reason for small businesses failing?
If you search online for reasons for this, most sources will advise that the cause is lack of cash.
According to a study of why US businesses fail conducted back in 2017-18 by Business Insider (businessinsider.com/why-small-businesses-fail-infographic-2017-8), the top reasons for small business failure are:
* 82 per cent experience cash-flow problems.
* 42 per cent no market need for products or services.
* 29 per cent run out of cash.
* 23 per cent don’t have the right team.
* 19 per cent are out competed.
It is perfectly possible for a company to be profitable on paper, yet it may still fail due to a lack of available cash, hence the wise adage, ‘turnover is vanity profit is sanity cash is reality’.
So why is managing cash such an issue?
There are a number of reasons for this, but probably a primary one is that many businesses do not have a method of forecasting their cash position, tending instead to rely on ad hoc checks on their bank account and perhaps looking at some upcoming bills.
For cash-rich businesses, this may be okay but for those that do not have deep pockets (and even sometimes for those that do – think of recent company failures for example), it can be disastrous.
Even businesses that keep a close eye on their profit and loss can get caught out for two key reasons:
1. Profit and loss does not include tax; and
2. Although you may have delivered your products and/or services, there is no guarantee that you will be paid by the due date.
Item 1 above may well catch people out since profit and loss statements do not include GST in the costs and prices so the figures contained here won’t exactly match transactions in bank statements.
More significantly, the need for IAS (Instalment Activity Statement) payments (the amounts withheld from employees, wages and salaries), BAS (Business Activity Statement) payments to the ATO (which reconcile GST payments and receipts) over and above business revenue, and invoice payments can be significant and if not correctly provisioned for may present the business with something of a shock!
Item 2 can also be problematic especially in the case of those businesses that are supplying products since chances are the business has had to pay for the raw materials well ahead of being paid for their delivered product(s) by their customers.
This was a key reason why construction businesses have done it so tough over the past couple of years – not only did they incur significant raw material price increases, they had to do so well ahead of the associated progress payments.
To mitigate these problems, it is recommended that a weekly, fortnightly or monthly forecast be built that defines conservative expectations of when cash will be received and includes reasonable estimates of forecast expense payments including tax-related items (IAS, BAS, etc).
This forecast must be reconciled against the business bank account statement at each update to ensure alignment.
Ian Ash is the managing director of OrgMent Business Solutions ombs.com.au
