Plan for the Year Ahead: Preparing Your Business for Changing Times
The beginning of a New Year brings the opportunity to take stock of your current business situation, reevaluate your operations, and assess the goals for the year. Especially in times of change, whether the causes are economic, political, or competitive, advanced planning can reduce stress and improve decision-making.
Some of the key steps in assessing the financial situation of a manufacturing business include:
- Review the budget.
- Assess cash flow.
- Evaluate cash reserves.
- Analyze asset usage.
Review the Budget
Many companies look at their budgets monthly, quarterly, and yearly when producing the required accounting and tax reports. However, many companies, especially small ones, fail to take a detailed look at the individual line items of the budget and how each of them contributes, positively or negatively, to the bottom line.
Most companies look at budget variances, especially at a high level, for sales revenue and overall expenses. But they often neglect to dive deeper to determine the cause of the variances. For example, a revenue decline resulting from the loss of a customer or contract could cause a machine to sit idle if that machine was only being used for that specific account. Identifying this situation would lead a company to either 1) find new projects that would require the use of that machine, or 2) sell the idle machine.
It’s also important to evaluate ongoing expenses, automatic charges and outsourced services. Items such as insurance and energy are necessary but needs change over time so periodic review of coverages and contracts could provide opportunities for savings and efficiencies.
Assess Cash Flow
A cash flow analysis helps a business understand where its money is coming from and where it’s going. This provides insight into cash management, ensuring the business that there are enough funds to cover ongoing expenses. It is possible for a company to be profitable but still have negative cash flow, but that is not a long-term recipe for success.
Your accountant can complete a cash flow analysis, and most bookkeeping software, such as QuickBooks, includes cash flow reporting.
If you find you have slow or negative cash flow, there are a few ways to improve it.
- Improve invoice collections and reduce accounts receivable. One way to do this is to factor your invoices, which gets you paid faster for your work — usually within a day or two after invoicing.
- Improve inventory management. Ensure you aren’t holding onto obsolete inventory or purchasing more inventory than can be used in a short time.
- Delay non-essential capital expenditures or finance the required equipment or assets to spread payments over time.
Evaluate Cash Reserves
Reserve cash is essential for a business to maintain financial stability and navigate challenges and opportunities. Having available cash provides flexibility in the case of emergencies, such as equipment failures or the loss of a customer or contract. Reserves can help sustain you through lean times such as business seasonality and allow you to take advantage of growth opportunities.
A general rule of thumb for most small- to medium-sized businesses (SMB) is to have on hand an amount equal to three-to-six months of expenses. If you don’t have a cash reserve, create a plan to build one. If you need more cash than you have on hand, consider a working capital loan or a revolving line of credit, such as an asset-based loan, which you can tap into for opportunities or emergencies.
Analyze Asset Usage
Fabricating and manufacturing companies rely on equipment to produce the products they sell. And the utilization and optimization of those machines are critical to the financial success of the business. If a machine’s utilization is low, then its contribution to the bottom line could be negligible or even negative. If a machine is constantly in use, chances are that its bottom-line impact is significant. However, if there is no backup machine and there is an unexpected failure or downtime, revenue and profitability will suffer.
When you analyze machine usage, consider the following:
- Output – hours the machine is used, number of parts produced, revenue from those parts.
- Criticality – how critical is the machine to the production process?
- Cost of the equipment – loan payment, maintenance and repairs.
- Downtime – amount of time a machine is unable to make parts because it is broken down.
- Maintenance– make sure your equipment is properly maintained so that it can continuously generate income and maintain its value.
In short, how are each of your machines contributing to the bottom line? You should determine if the contribution of each machine can be improved. Sometimes small, incremental improvements can have exponential results. If the machines are not in service or running at productive levels, consider selling or upgrading that equipment.
All businesses should review their financial situation regularly and make updates to the forecasts and future plans. As COVID taught us, circumstances can change quickly so it’s important to understand your current state of affairs and have some contingency plans in place, before you need them.
