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Value Adding News - January / February 2009

Welcome to Maxell Consulting's newsletter - Value Adding News.

The newsletter is designed to help businesses increase their value , make their business more attractive or have greater confidence about the decisions they are making about the future of their business.

In this month's issue

How to preserve value by preserving cash flow - Part I?

When it comes to the value of a business one of the key determining factors is the cash flow of the business.  Typically buyers look at the cash flows the BUYER expects in the future.  They estimate the future cash flows based on past performance.  However some alarming survey findings where reported by CPA during August 2008 about how small businesses manage their cash flow:

  • 41% of small businesses surveyed NEVER prepare cash flow forecasts.
  • 70% of small businesses surveyed DO NOT prepare quarterly financial statements.
So how can you preserve the value of your business during hard economic times if you don't even know what your cash flow is doing and what is cash flow anyway?

What Is Cash Flow?
Cash flow is not just your profits from the ongoing business.  For any particular period it is the difference between cash into the business and cash payments out of the business.  It includes invoices paid, payments made as well as funds received from debt and equity additions and payments made against existing debt and shareholders. 

It effectively represents the cash available to the business as a result of all its activities - operations, financing and investment.

The higher the cash flow the higher the value of the business.  And most importantly, the higher the cash flow the more likely a business will survive any economic downturn.

So what things should a business do to preserve cash flow?
They key activities to preserve cash flow can be broken into four categories:
  1. Increase gross profits.
  2. Reduce working capital.
  3. Reduce debt
  4. Cut unnecessary investment
  5. Measure and report cash flow regularly
Over the next few newsletters we will elaborate more on each category.  In this newsletter we shall focus on increasing gross profits.

Increasing Gross Profits
This is all about increasing your sales and reducing variable costs associated with making those sales.  Key activities you should look at include:
  • Lock in good customers for the future with long term deals.
  • Introduce "up sell opportunities" with existing products and services and promote to your existing customer base.
  • Fill up your sales and prospect pipeline through targeted promotion to key customer segments.
  • Review pricing within your core market segments (avoid a blanket price increase across the board unless it is appropriate - target your opportunities instead with logical reasons for the price increase).
  • Jettison loss making products and services and customers that don't contribute to profits (do you know who these are?).
Investment in technology or processes that improve your efficiency at delivering products and services is critical at this point.  Cutting variable costs will provide more leverage for increased cash flow as sales expand later.

The most important thing is to develop a one page plan of what you will do, who will do it and how you will measure success.

Remember, cash is king for any business and right now it is your lifeline as sales decline. 

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Get Massive Increases In Business Value From Your Gross Profit

Most businesses are typically value as some multiple of net profits before tax, and often net profits are between 10 - 20% of sales and sometimes even less.  This is valid when the business is not being integrated into another operation and when the fixed costs are likely remain at a similar level post-sale.

However if you can find a buyer for your business that will merge your business into an existing operation, the cash flow benefits that the buyer will receive will be much much larger.  In this case the cash flow that your business contributes to the buyer's existing business will be:
  • Gross profit from your future sales
  • Less additional fixed costs incurred after merging operations.
Lets look at an example:

Say your business has a net profit before tax of $250,000 pa from sales of $1.5 million per year, and you accept a multiple of 2.0 times net profits as your valuation.  This values the business at $0.5 million.

But your gross profit margin is 40%, resulting in an annual gross profit of $600,000.  Lets say your buyer will still incurr $100,000 in fixed costs after merging the business with the existing operation.

So the net cash flow contribution to the buyer will be $600,000 - $100,000 = $500,000.

At the same multiple of 2.0 times additional cash flow your business is worth more like $1 million.

So by finding the right buyer you can more than DOUBLE the value of your business.

  • What is the gross profit of your business?
  • How do you find buyers that can merge their business with yours?
  • What do you need to do to prepare your business for achieving such a massive increase in value.
Sign up for a free assessment to gain some ideas on how this could be achieved.

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Companies In The News

Learn from companies in the news.

  • Strathfield Collapse:  Retail chain Strathfield placed itself in voluntary administration last month after experiencing poor sales over Christmas.  It was quoted as saying that poor trading conditions and a deterioration of its working capital positions and funding requirements its board took the step of entering voluntary administration.  This was despite closing unprofitable stores in the previous calender year.  The lesson:  Protect your cash flow!
  • Woolworths:  Its recent six month sales and profit results show that Woolworths is building its cash reserves.  Not just to ensure it can pay its bills, but also provide quick funds to take advantage of acquisition opportunities.  The lesson:  Be aware of your opportunities if you have the cash!
  • Big Four Banks Raise Capital:  All of the big four banks last year rushed to the market with capital raisings.  Whilst we might moan about ever-increasing bank fees, the strategy for all of them was to be able to move quickly as the banking sector restructures under the pressure of the global financial crisis.  The lesson:  Know what your next move will be and be ready to move quickly!

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Latest Economic News

The economic news that may impact your business value.
  • Access Economics recently reported that total business investment fell in the December quarter by 5.8% from the previous three months.  This will impact the demand for many investment-related products and services in the coming six months.  They expect government spending will help investment in the infrastructure sector.
  • Many small businesses are now turning to factoring and debtor financing to alleviate the shortage of credit facilities now offered by the main banks.  Recent statistics from Dunn & Bradstreet show that businesses averaged 56.5 days to settle accounts.  With cash flow being a significant determinant of business value, managing your outstanding debtors becomes critical in getting the right value for your business.
  • Australian Industry Group - PricewaterhouseCoopers recently reported that manufacturing activity declined in eleven sectors during January, with textiles the only sector to record expansion in orders.  With new orders continuing to fall for most manufacturing sectors, it suggests that lower interest rates and government stimulus have not yet had a noticeable impact on the manufacturing sector.

Quote of the Month

  • The buyer needs a hundred eyes; the seller but one. (Italian proverb)

Value Adding Ideas

  • Cash flow is the name of the game at the moment - stabilise or increase cash flow will add massive value and attractiveness to your business.  Focus on getting outstanding debtors to pay as quickly as possible, cut your inventory levels and reduce debt.

Business Buying and Selling Trends - February 2009

  • January 2009 was a quiet month for business sales as most people put up their feet and went on holiday.  Whilst it is expected that business sales will continue the depressed trend prior to Christmas, high quality opportunities for investment by astute buyers will remain.  And whilst ever buyers are in the market, business owners have the opportunity to sell.  The key is to be ready for the right buyer when they come along.
  • Recent reports by BizExchange highlight that over 60% of people surveyed expected the price for businesses to decrease over the next three months.  The businesses that will command a reasonable value will be those that can demonstrate a substantial cash flow both in the past and in the future.
  • In the meantime a key trend to watch is the number of businesses going into administration or simply closing "shop".  Recently The Age newspaper reported that over 10,000 businesses go into adminstration each year and this figure is rising under the current climate.  The more alarming fact is that most of these businesses don't have a clear idea of how the business is performing - they just know they are short of cash.
Contact Maxell Consulting to discuss more detailed information on the latest business trends and what they might mean for your business.

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Next Month's Newsletter

  • Part II of How to Preserve Value by Preserving Cash Flow? 
  • When do you create value?
If there is something you would like to find out about, let us know by sending us an email or by going to our Contact Us page and filling out the enquiry form.  We want to provide you with the information and help that you need.  We are only too happy to find out about what you want.

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