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The need for capital adequacy and financial leverage is not for survival alone. You are now a growing successful enterprise that desires to make the transition of being small to becoming big. This is the time to prepare for opportunistic growth and not being stuck in the operational rut. To execute growth, we need to have capital adequacy and financial leverage. The following are the things we must do –
1. Postpone gratification and invest in the business – Retain earnings into your business; don’t get greedy on paying yourself dividends. Retaining earnings in the business is the most effective source of capital for a small and growing business. Keep adding to your reserves and use it to fund your growth ideas. Trade instant gratification through dividend income for higher valuation for your invested equity.
2. Cash Flow controls – However good your going is, keep the cash flow cycles short. Find ways to make it shorter and shorter. Leverage your vendor credits and keep your receivables in tight control. Keep the DSO low and minimize/ eradicate receivables beyond 45 days.
3. Inventory turnover – maximizing inventory turnover is the best way to make money work harder for you. By minimizing manufacturing set-up times, improving manufacturing process efficiencies, and managing inventory better, your working capital requirement can come down significantly; improving your ROI. Even if you are a services company, leverage you billing man-hours efficiently; put processes in place that shortens the delivery time on every service order/project. Keep a close watch on man-hour utilization because work always expands to fill time. Monitor also the under-utilized man-hours (bench time) which is opportunity cost particularly if bench-time occurs due to poor resource planning.
4. Bank Overdraft – this is an important source of working capital fund. Even if we are not in dire need of this facility, it is best kept ready for use to leverage sudden market opportunity when they are presented. Maintain good relations with your bank and keep a low cost bank OD facility active.
5. Build credibility with your bank for a Long term Loan – Although you may not need a long term loan right now, keep your relationship with your bank as if you need it now. Keep you bank informed of your financials and your business plans. Deal with you bank at formal and informal levels to built your relationship. The bank should look at you are a potentially great client to have. This helps to negotiate better terms when you actually require a long term loan to fuel your growth. Approaching you bank at the eleventh hour of need gives the bank an upper hand in negotiating the terms of your debt. Bankers look for the following 5 things before they lend money –
a. The character of the business owner and the reputation of the business.
b. Capacity to repay; judged by the quality for your business model and the cash-flow.
c. Availability of collateral security.
d. Net worth of the Business.
e. Contribution, i.e. your equity in the Business.
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