Each month in this column series I ask a different question to you, the ExitEvent Entrepreneur. Thought provoking questions that are meant to get you to sit back and think. Each month I offer insight into the question, along with common mistakes made by (us) entrepreneurs, and a key take-away for you to think more about. My goal—to increase your self-awareness as an entrepreneur and a leader.
Insight— Cash is king. We all know that. When you run out of it, you are done—unless you have an endless supply waiting for you somewhere (by the way, if you do have an endless supply I have a few really good ideas I want to run by you for some new businesses!). I know we all get it, we need cash to survive, both in our businesses and at home. Hopefully you have an eagle eye on your cash balances each and every day. Most entrepreneurs I have hung around with, even if they boldly claim to be financially ignorant (yes a lot of you can relate to what I just said) can talk about whether they have enough cash to operate, and especially…whether they have enough money in the bank to make their next payroll.
Common Mistake made—But how much cash do you have in two, three and out to six months? What I don’t see many entrepreneurial types doing is gaining a complete understanding of their cash trends. Fast-growth businesses “burn” cash, quickly. In fact, truth be told, running out of cash is the single largest cause of failure of small businesses. Over 60% fall because they run out of cash…ouch.
I can remember like it was yesterday. January 2004. Our bank balance was $650,000…nice! Sales were growing…sweet! Profits were growing…icing on the cake! So why did my partners hate the phone call I made to them, telling them that we were going to run out of cash by June, AND exceed the limit on our credit line? Because they knew I understood the trends of cash, and we had just hit our peak. For the next six months, we were trending downward fast, even though sales and profits (and expenses) were growing…especially because sales and profits and expenses were growing.
The mistake I see a whole lot of entrepreneurs make is they focus on today’s cash balance and forget to look at where the cash balance is projected to be next month, and ideally, out another five months at least. The blinders are on; the optimistic entrepreneur is making bold decisions with the business simply because he or she has cash today. That is a potentially fatal decision, and statistics prove this point. 60% failure rate due to a lack of cash is a huge number.
Key Take-away—Cash can trend the opposite of revenue and profits, and cash and accrual accounting methods can show very different pictures. Novice entrepreneurial leaders are satisfied that they have cash in the bank today, and will continue to grow the business without thought of how much cash they’ll have next month. These entrepreneurs continue taking risks consistent with what has got them to this point in their business. A seasoned, or maybe a better way to say it is a hardened entrepreneur, understands and embraces cash trends and is disciplined to forecast cash balances out for at least six months whenever possible.
I am perfectly fine with risk and I know you are too. That is what we do; entrepreneurs take risk and get paid high returns for the risk we take. I’m just asking for you to graduate to understanding not just daily cash balances, but forecasted cash trends. This changes your risk profile from risk to calculated risk. Go back to your math class days, those statistics courses you took and commit to veering away from the #1 statistic that causes business failure. No Calculus needed, just some basic math will get you the info you need.
P.S. To finish the story, we put more money into the business in February 2004. Our bankers loved the fact that we were on top of the business and our banking relationship was stronger than ever.