Periodically reviewing your cash flow
projections will help you prepare for
times when you’ll need additional sources of cash. Having good relationships
established with banks, creditors and suppliers beforehand will help when you need
a short-term business loan or the ability to
access a line of credit.
“Business cash flow is one of the most
important factors we look at when making
a decision regarding a credit line,” says
Alice Chen, senior credit analyst/Credit
Team lead for Wells Fargo Bank, Houston.
According to Chen, a company may be
profitable on paper but cash flow may still
be negative: “The banker can help the company understand how it compares against
others in its industry by examining its numbers against Risk Management Association
ratios for similar businesses. These are the
ratios we work with when determining
whether to extend a line of credit, and for
how much. Understanding the numbers
will help a business determine where it
might need to improve, and can help it
obtain more favorable terms.”
Smart Business talked with Chen about
ways companies can improve their business cash flow.
What is business cash flow?
By definition, business cash flow is the
movement of money into and out of a
business. It has been used to refer to net
cash after operation in Uniform Credit
Analysis (UCA), a cash flow model. It has
also been referred to as operating cash
flow as shown on the FASB 95 cash flow
statement.
Bankers use the net cash after operation
for their credit review process/analysis. We
also watch the trends of net income and
cash flow after operations for signals of
potential problems. When cash flow after
operation begins to lag behind net income,
it’s usually a red flag.
Discuss the importance of understanding
cash flow.
Here is a good example. Company ABC
showed a pattern of consistent profitability and even some periods of income growth.
For the last three years, net income for the
company grew by 28 percent, from $15 million to $19 million. The company had consistently paid dividends and interests. One
year later, the company filed for bankruptcy. Closer examination of the company’s
financial statements revealed that it had
experienced several years of negative cash
flow from its operations, even though it
reported profits. Sales reported on the
income statement were made on credit,
and the company was having trouble collecting the account receivables from its
customers, causing cash flow to be less
than the net income.
Is it getting easier, or more difficult, for companies to manage cash flow?
Easier, thanks to a wide variety of new
technologies designed to help businesses
make deposits faster, collect receivables
faster, and more efficiently manage their
banking operations overall. Combining a
depository solution and payments processing solution at a single bank will usually
speed up funding of credit/debit card payments. For example, Wells Fargo offers as-soon-as-next-business-day funding with a
checking or depository account.
How can bankers help companies manage
cash flow?
Managing cash flow means balancing
cash inflow with cash outflow. Look for
banks that offer a variety of cash management products to help customers in the
areas of collections and disbursements and
information, including, but not limited to,
lockbox, payments processing, processing,
cash management accounts, ACH collection, electronic desktop deposit, revolving
lines of credit and other credit/treasury
management products for business.
For example, a business owner can eliminate the need to go to a branch to deposit
checks by using an electronic desktop
deposit machine to deposit checks in
his/her own office. Every check is imaged
and saved. The data is then transmitted
directly to the bank. This can help the customer reduce the check floating time and
focus more on their core business.
Customers can also request a revolving line
of credit to help the cash flow during the
collection period for accounts receivable.
How can a company finance business cash
flow?
A line of credit can help a business during
the times it is waiting to collect accounts
receivables. When evaluating if a company
is eligible for the line of credit, the bank
always looks for a reliable measure of the
borrower’s repayment ability. Cash flow
becomes the bank’s primary focus when
analyzing a company’s ability to repay the
debt. Operating cash flow can be generated
from the conversion of cash to inventory to
receivables back to cash, which is also
known as the short-term asset conversion
cycle. Bankers review the conversion cycle
closely to determine the borrower’s ability
to generate cash and make a creditworthy
decision. In addition, we can also use this
information to help the company understand how to improve the cash flow.
ALICE CHEN is senior credit analyst/Credit Team lead, Wells
Fargo Bank, Houston. Reach her at (832) 251-5531 or
[email protected].
