It’s the Cashflow, Stupid

Profits are an illusion created by accountants.

You can’t grow your way out of a flawed business model.

Cash is King, Queen, Master of the Universe, and Emperor for Life.

These are mantras I’ve been telling entrepreneurs for years.  Nothing matters more to the life of a business than its cashflow, which is why a good cash forecast is so important to a growing venture.  Derek Baker at Cashboard offers his five reasons cash forecasts are inaccurate.  Great post, via CJ Cornell’s newsletter.

The Power of the Value Proposition

I have written before about the challenges new businesses face as they try to get established in the market and build revenues.  In one post, I compared new businesses to annoying little gnats flying around in the face of the market.

At the heart of early success for a new business is identifying a compelling value proposition that you can offer to the market.

Your marketing mix, that is the combination of your product positioning, promotional plans, and pricing strategies, all need to reinforce the value proposition you are offering to your customers.

Andrew Gregson explains how pricing reinforces the value proposition in a post at StartupNation.

The most popular pricing strategy for startups and small businesses is to follow the lemmings and charge what everyone else charges or to calculate the costs and target a certain margin. Both are disasters. Following the pack leads to average profits at best. Marking up from costs leaves money on the table.

Even though getting pricing right is tough, it is critical to put in the time to ensure your pricing reinforces your value proposition.


The Beast Comes Roaring Back

The beast is back.  Inflation is roaring, and showing no signs of letting up.  Small business owners concerned about inflation has increased from 74% in Q4 of 2021 to 85% in a recent update of the Metlife/Chamber of Commerce small business index.

Vulnerability of Small Businesses

The problem for smaller businesses is that they are less able to adjust to inflationary pressures.  Small businesses are the weak player when it comes to market power.  Time is your enemy right now, as inflation is raging at levels we have not seen in decades.

If you have big suppliers or customers, they can tie your hands.  Your costs go up, but you are unable to pass along these costs with higher prices quickly enough to keep up with the inflationary squeeze.

An additional worry is that we have a weak economy with inflation — this is called stagflation.  In this scenario, customers begin to sit on their hands.  When you raise prices they either buy less from you or even decide not to buy at all.  Consumers go out to eat less often and when they do, they buy less expensive meals.  They travel less and choose cheaper options.  They postpone buying new goods.  They also postpone maintenance on our big investments, such as houses, cars, and appliances.

Employee costs were already on the rise due to recent labor shortages, but now will likely accelerate as a result to their own challenges with inflation in their everyday lives.

What to do?

When inflation heats up even a little, be aggressive with frequent small price increases rather than waiting and trying to catch up at
some point with one big jump
. Don’t let yourself get behind, as small businesses can almost never play catch-up if the delay price increases.

This can be tough to implement for some businesses, particularly if you publicly list your prices.  For example, it can get very costly to print up new menus each month for a restaurant owner who wants to follow this strategy.

But be vigilant.  Customers are less likely to pay attention to price increases if they are small, so it is essential to find creative ways to communicate your pricing to allow you to implement this strategy during inflationary times.  For example, a restaurant may use menu inserts that can inexpensively be replaced.  This was actually very commonly used in restaurants during the 1970s and 1980s when we had high inflation.

In addition, prudent management of finances can help a business survive inflation:

  • Find ways to cut expenses without impacting the core value offered to customers.
  • Keep overhead low.
  • Build cash reserves to buffer short term price increases that precede your ability to get higher prices from your customers.  I know this sounds contrary to the investment advice we are now hearing about holding cash during inflation.  Don’t think of this cash as investment — it is your lever to hold back the rising tide of inflation.  Think of it as an internal line of credit to hold off the impacts of inflation.
  • Watch your margins carefully. Worry about growing profits, not sales.
  • Don’t lock into long-term contracts that have narrow margins with large customers.
  • Pay down variable interest loans ASAP, especially now that interest rates are temporarily relatively low. As soon as inflation heats up, interest rates will continue to rise.  And given the stubbornness that the Fed is now showing with interest rates, we may soon see huge spikes in rates over just a few quarters as inflation takes hold.

Expand Your Dashboard

A financial dashboard is an important tool for business entrepreneurs.  The dashboard provides a quick overview of critical metrics that summarize the health of a business.

Standard ratios derived from financial statements serve as the foundation of most dashboards.   However, relying only on financial statement data means the entrepreneur is managing the business using numbers based on past performance.

Lessons from a Parking Lot

Many years ago, an entrepreneurship professor shared an exercise he used with students to teach them the limitations of relying only on historic data in their financial dashboards.

He would have his students meet him in a commuter parking lot on campus on a Saturday morning (when the lot was empty).  When they arrived, there was their professor standing next to an old car.

The professor set up a simple course for the students to drive using orange cones.  When the first student got into the car, he realized that the professor had blacked-out the front windshield and side windows.  He was told he must drive the assigned course going forward.

“But I can’t see where I’m going!?”

“You can only use your rearview mirror,” said the professor.

The result was hilarious.  Student after student careened through the parking lot,  driving over cones along their path.  Most thought their professor had gone mad.

Eventually, one of the students would understand the point of the lesson.

“This has to do with financial dashboards, doesn’t it.  We don’t know where we are going because we can only see where we’ve been!”

Lesson learned.

Finding Ways to See Where the Business is Headed

Although I have never actually used this exercise with entrepreneurs I work with, I do often share this story.  I challenge entrepreneurs to find ways to “tear away the black paper” so they can see the road ahead for their businesses.

I give them an example from our healthcare business.  We monitored various metrics related to inquiries and referrals, which proved to be good predictors of future revenues and helped us time the hiring of new staff more effectively.

My rule of thumb is that no more than half of the metrics on a financial dashboard should come from historic financial statement data.  The rest should be specific numbers for the business that indicate where it is headed.

The Lost Art of Business Communication

We used to teach courses in business writing in business school.  Students learned how to construct effective business letters and memorandums.

Over the past decades, those courses faded away as formal requirements in most business schools.  Business schools opted to integrate writing requirements into various courses in their curricula.  Students now graduate with experience in writing business case study analyses and research papers, but get little or no instruction on how to construct formal business communications.

Emails Show the Result

I see the outcomes of the lack of training in business communication in emails that I receive from students. Most students use a highly informal communication style in their emails.  It starts with the salutation.  “Hey, Professor”, or my least favorite, “Hey, Jeff”, are common salutations in emails I receive from students.  Although this might be fine in an informal text message, email has become the new medium for business communication.  Therefore, it needs a higher standard of formality and writing style.

From there, the content of the email then proceeds to go downhill.  The text of the messages are full of poor grammar and language that sounds like it is pulled from a hastily constructed personal text message sent to one of their friends.

From what I hear from employers and investors, students carry this informal, unprofessional style of writing with them into their careers after college.  I frequently hear from people in the business community about students and alumni of mine who send emails that are so long and rambling that they give up trying to understand the purpose of the communication.  They complain about emails full of typos, muddled messages, and poor grammar.

David Cohen, an investor and founder of Techstars, wrote in a blog post that he commonly receives emails sent en masse to a large group of investors, many of whom he knows personally. At best, this shows a lack of respect for the recipients. At worst, it makes the sender look just plain lazy.

In a follow-up post, Cohen highlights what he calls “the perfect email.”  The sender is clear about the purpose of the email.  The sender takes the time to personalize the email to the recipient.  The email is well-written with a clear and concise message.

Creating Effective Emails

If a student graduates and gets a corporate job, they will quickly get trained in effective business communication (however, these employers do wonder why it is left up to them to teach this skill).

For those pursuing a purely entrepreneurial career path, they are on their own to develop effective business communication skills.  There are plenty of good resources out there (for example, here, here, and here).

By all means, find someone to proofread your important emails.  If you are in a co-working space, find a group of fellow entrepreneurs who are will and able to review each others’ communications to help everyone get better.  Effective business communication, like any skill, takes learning and practice.