Multi-Unit Franchisee Magazine Issue II, 2014 | Page 75
has rental assets that cost him $800,000.
If they were as productive as the assets of
the top 25 percent, he’d have made another
$32,000 in gross profit.
Reading through his industry benchmark report, John sees his issue: low gross
profit in relation to the investment in rental
equipment, along with several specific possible causes (under-utilized rental inventory,
high costs of rental assets). Could his low
gross margins be caused by any of the other
factors listed above, such as poor pricing or
poor buying? We checked the competition’s
prices and found that John could raise his
prices without affecting his position in the
market. An increase of only 1 percent on
sales of a $1 million, and voila!, we found
$10,000 more for the bottom line.
Next stop, cash flow. Since John shared
with us that he ran into some cash crunches
last year, let’s look at how he rates in that
department. According to our roadmap, low
cash is caused by high current liabilities, too
much inventory, and too much customer
credit. While John appears to have done a
decent job in managing his inventory, one
of the key ratios—the current ratio—indicates that his solvency is off, compared with
his peer group. In fact, for every dollar of
current liabilities (that will need to be paid
in the next year), the high-profit group has
current assets (assets that will become cash
within a year) of $2.43 to pay off their liabilities, compared with John’s $1.75. (For
his entire peer group, that figure was $1.39.)
Using the roadmap, we find that one
of the possible causes behind his low cash
is too much customer credit. And, as we’ll
see, something that can really drive up that
number is taking too long to collect his
accounts receivable (A/R). While his highprofit peers took 44 days to collect money
from their customers, John took 52 days
for his. This 8-day difference is crucial to
his low cash situation.
If we know the formula for A/R turnover
(the rate at which customer debts are collected on an annual basis), we can use these
numbers to find out what his receivables
“should” have been, had he managed his
collections process as well as his peers did:
1) If we know that A/R Turnover =
Credit Sales ÷ A/R, then
2) We can rearrange the formula like
this: A/R = Credit Sales ÷ A/R Turnover.
3) Then, if we add the word Target to
both sides of the equation: Target A/R =
Credit Sales ÷ Target A/R Turnover.
We know that John’s 2013 sales were $1
million, and that 50 percent of sales were
made on credit. We can then divide the
credit sales by the high-profit group’s A/R
Turnover number of 8.4 (the target): Target
A/R = $500,000 Credit Sales ÷ 8.4 Target
Turns = $59,524. But John’s actual A/R at
year-end was $72,500, an A/R of nearly
$13,000 more than his high-profit peers.
When you take the $13,000 excess A/R
and divide it by 8 days, that’s $1,625 for
every day John lets his customers keep
his cash. (You might recall that one of the
causes behind low gross margin is not taking discounts on payables. With more cash,
John might have nabbed some of those
discounts and increased his margins—or
maybe avoided that last-minute credit line
and resulting interest.)
John has now found a plan to improve
his collections and decides to schedule a
management meeting today to put it into
action. Let’s summarize the results of our
little sleuthing exercise:
More Profit
Improve asset productivity
$32,000
Raise prices
$10,000
Other issues yet to be identified
$6,000
Total gross margin difference $48,000
Total A/R difference
More Cash
$13,000
That’s a total of $61,000 of improvements to profit and cash flow we found in
just one quick trip around the roadmap—
and we didn’t even get into the third area
of low net profits!
My challenge for you is simple. Use this
format to take a trip through your business.
As with any trip, you can’t reach your destination without a map, and that’s what this
framework is: a financial roadmap. You can’t
solve the mysteries until you know what to
ask and where to look!
Steve LeFever is the
founder and chair of Business Resource Services (BRS),
a Seattle-based consulting
firm that provides financial
management education, network benchmarking, performance group
facilitation, and bookkeeping services for
closely held businesses under its Profit Mastery brand. Learn more at www.profitmastery.net. or contact him at 800-488-3520
x14 or [email protected].
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