Time for Business Health Check
The begining or end of a financial year is a good time to have a business health check prepared on your business. Business health checks are just as important to businesses as medical checkups are for humans. A business health check can highlight some potential problems before they cause real problems and cost a lot of money.
The types of activities that we can undertake, on your behalf, include:
- preparation of key performance indicators for your business and ratios on your Profit & Loss Account and Balance Sheet; and
- comparing these figures to your Budgets and benchmarking those results against similar businesses operating in other parts of Australia.
A key segment of the business health check is to undertake a financial evaluation of your business, particularly relating to:
• what is the break-even level of sales required to cover overhead costs.
• what does the analysis of working capital reveal?
Working capital comprises the key current assets, including debtors. This raises questions like:
- Review of Debtors' Aged Analysis and calculation of debtors' days outstanding.
- Stock investment, the calculation of the stockturn being achieved and the days of investment in stock.
- Work in Progress - calculation of the days of investment in work in progress.
- Bank Account - how does the level of your bank account compare to your negotiated bank facility?
- Creditors - calculation of creditors' days outstanding and Creditors' Aged Analysis.
This then enables the calculation of the Working Capital and the Current Ratio. The Current Ratio is the relationship between Current Assets and Current Liabilities. This is a key indicator closely examined by banks and is calculated by dividing Current Assets by Current Liabilities. Banks currently have an expectation that the Current Ratio will be 2+.
Cashflow Monitoring is Vital for Success
Events in the past week in the USA and Europe have highlighted the necessity for small/medium enterprises to continue to monitor their cashflow very closely.
When you read about a major American bank losing 20% of its share value overnight, you realise the magnitude of the problem that is facing the world; there is high unemployment in the United States and there are real problems in Europe, particularly with countries such as Spain and Italy, who are now being talked about in the same context as Greece, Ireland and Portugal. All of this could lead to a tightening in the lending position of Australian banks because of the Australian banking systems' reliance on borrowing money from overseas. The Reserve Bank has left the prime bank rate at 4.75% and Dun and Bradstreet has indicated that debtors' days outstanding is now approximately 54 days. Even though this has reduced slightly, it is still well above traditional 30 day payment terms with which many businesses try to operate.
Now is the time to closely monitor the key components of cashflow control. These are:
- Debtors - you need to ensure that the administration for the opening of accounts for new customers in your business is being closely supervised to ensure you're not just attracting someone else's problem customers.
- Have you considered ways of reducing your debtors' days outstanding? Have you considered outsourcing debt collection?
- Inventory - how much money do you have tied up in your inventory system? What is your stockturn rate? Could it be improved? What do you need to do to reduce your investment in inventory? Are you building up old and damaged stock? Should you be liquidating that stock as soon as possible so as to return the cash to the business?
- Work in Progress - are you closely examining to ensure that jobs are being finalised and invoiced out of work in progress as soon as possible?
- Creditors - whilst the prime concentration on cashflow management will always be on debtors, stock and work in progress, it is a good idea to also check creditors. What is the creditors' days outstanding? Are you taking longer to pay than what your major creditors have stipulated? If so, what would be the position if your creditors demanded payments to be made in accordance with their stipulated trading terms? What would be the position if they refused to continue to deal with you? This is happening in more and more cases around Australia at present.
The analysis of your cashflow position may indicate that you do require additional funding. If this is the case, the quicker you determine whether you're able to introduce additional funding from private resources or need to have a discussion with.
CPA
The Tax Institute