The Devils of Cash Flow

I don’t know who first said “cash flow is king.”  They should have said cash flow is a devil.  Startups are constantly damned by their cash flow.

This isn’t because entrepreneurs are somehow inept.  It’s because cash flow is deceptive, subtle and sneaky.  Cash flow and profitability aren’t the same – cash flow can kill profitable companies.  One day your clients pay net 30, then something happens and you start getting paid net 45, 60 or even 70. Meanwhile your own business is in flux.  You may start pushing out payments to your suppliers.  And this is when things are relatively calm.  Next an anticipated revenue stream vaporizes… say a big order is canceled.  An unexpected expense shows up.   Suddenly you can’t make payroll.  Welcome to cash flow hell.

When this happens it can be time to raise extra cash – smooth over cyclical gaps.  Most businesses find themselves here sooner or later.  When this happens, here are some options:

  • Equity investment can be a terrible option here – why give up precious ownership of your company just to bridge short-term capital needs?  Feels like giving up part of your soul for chump change.
  • Bank loans are what most people resort to, only now you have another minimum payment and debt covenants to deal with.  Your business was going through turmoil in the first place and you’ve been forced to add more risk and cost.  If you miss some payments your personal credit, home, business and anything else you laid down for the loan go up in smoke.
  • Factoring is another option.  Here you sell a portion of your receivables to a factoring company in exchange for some of that money up front.  It’s like a payday loan.  This can be okay unless you need more capital than the small amounts factoring companies offer, you don’t want to give up control of your ledger, or you’re not willing to unleash their collections people on your clients.  That may tick your clients off.
  • Grandma is a great way to go, should you be so lucky.  On the other hand, knowing my grandma I’d probably get better deal terms from a military interrogator.
  • Revenue based funding (RBF) is another, newer, option.  You usually get a larger lump sum than factoring companies can offer, without personal liability, collateral or minimum payments, without unleashing collection agents on your clients, without giving up ownership in your company and without Grandma to reckon with.  Those are the pros’.  On the cons’ list, you usually have to cede three to five percent of your monthly gross revenue (a royalty) to the RBF investor until a predetermined maximum dollar amount or time period is reached.  If your gross margins can’t handle the royalty, RBF is a bad option.

This is the inferno through which you must crawl to escape cash flow hell.  All options come at a cost, but the goal here was to give a panorama of solutions and to highlight RBF as a welcome addition.  Alleviating cash flow problems on favorable terms is good for startups and the communities that depend on them.  Remember, when it comes to managing cash flow, the devil is in the details.

Author: Thomas Thurston

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