You have to agree with me that working capital is the most important financial aspect of any business. Profit is like food, you are strong enough, you can survive a while without it. But how long can you go without liquidity? Not water, I mean working capital.
Despite liquidity management being a matter of life and death, many businesses shoot themselves in the leg (not twice, but 8 times!) with easily avoidable mistakes when it comes to working capital management.
Check if you have made one of these 8 working capital mistakes in your business? And how to avoid them:
1. You do not prepare cash forecasts
Businesses in Kenya do prepare budgets for money that they have. They allocate money on different activities and that’s good. But most do not budget for money they do not have yet. It’s not crazy. You have to prepare cash flow statement forecasts (every month) if you want to stay on top of future working capital problems that will arise. If you only ‘guess’ how much money you’ll bring in future, you will be caught flat footed. If you believe that your business will grow and things will sort themselves out, remember that growth comes with more expenses.
2. Confusing cash inflow with profit
How many times do you read that a business person in Kenya makes millions ‘in a bad month’? I’m sure you’ve been asking yourself whether those are profits or revenue, and what margins they enjoy. Because many small businesses in Kenya operate on cash basis and have increasing markup as their top strategy, it can be easy to believe money on you hand is profit. Some even use this revenue to splurge on fixed assets. Preparing financial statements and knowing the difference between cash and accrual accounting can help you avoid this.
3. Slow cash cycle
When it comes to short-term financial management of your businesses a vice like impatience is a good thing. Money should move in and out of your business quickly. Unfortunately, many small businesses in Kenya do not handle this well. When getting your money from suppliers, use your genius. One, you are allowed to pay on the very last day of your repayment period (why pay back early, genius? keep your money). If broke, use your charm to renegotiate terms and next time move to smaller suppliers. They rely on your business and won’t be harsh on repayment terms.
4. Too slow to collect money owed
Related to point 3 is urgency in collecting what is owed to you. We spoke about this, be slow to pay your debts but fast to claim what is owed to you. It’s not double-standards. Bad debt is too risky for small businesses because they do not have the spread of customers to survive it. Do you think if debts bring down your business that #KOT will empathize with you as they did with Nakumatt? Start aligning to when your clients get paid and giving incentives to those who always pay early so they continue to do so.
5. Wrong pricing strategy
The small business sector in Kenya is so competitive and one way you’ve responded to this is lower prices. True, you will bring in customers but at what cost? Sometimes you set the price too low such that you are always short of working capital no matter how good the month is going. Beside reevaluating your pricing, you also need to look to other means of outdoing competition. You could go the discount way or go for quality as small businesses should.
6. Bad month of business
Haha, how you wish you were making hundreds of thousands of shillings in a bad month, no? It is normal that when sales or revenues are down that you will struggle for working capital. It’s also normal that new businesses will not bring in enough revenue so they too will struggle. New businesses can only cover for this by additional investments into the business. If you’re the former, find out what is causing sales to decline and deal with that. Is it quality? competition? substitute products? poor service? the Kenyan economy? (yes, vote wisely 5 years from now).
7. You do not research terms
Sometimes you’ll try every trick in the book to get back to positive cash flow but ultimately you have to make the walk of shame to a bank, a supplier, friend doing better than you or family, who were always against you going into business, to borrow money. Don’t underestimate the benefits of finding out who is offering you the best lending terms. Take the money and use it to increase revenue or pay off those pending high-interest loans so you get back on your feet.
8. You do not monitor
We started by looking into the future of cash flows by preparing forecasts. You must also look back and monitor how you’ve been performing to know if you’re improving on working capital management or disaster looms right round the corner. There are different measures to use, which we will show you later, like how long is it taking you to collect debt? how fast are you selling your goods? how quick is money moving in and out of your business? etc.0