Whoever said, ‘profits are an opinion, cash is fact’ is absolutely right. It is a sentiment echoed by most consulting firm owners but unfortunately not translated into the working practices of cash-flow management in their companies.
Cash flow is a common problem in the consulting industry, but its also an important equity value issue that needs to be resolved if you want to sell your firm. When your potential acquirer or investor takes a good look at your financials, good cash-flow management sends a very positive signal. The opposite rings alarm bells.
Why is it a common problem and what can you do about it?
A typical scenario of poor cash flow goes something like this: you’re approaching month end in August with an upcoming invoicing run and you need to pay your consultants. You chase your team for their timesheets and expenses so that you can bill your clients, however whilst timesheets are not a problem, expenses are (because it’s a hassle). In fact most slip to September so there’s a delay in getting the bills out and your clients won’t receive their invoices until September month end. Your best clients will pay by the end of October, but other debtors may extend payment to 60 or 90 days. Meanwhile you’re paying your employees on time, but it’s at least 90 days before you’re recovering costs and getting the cash in for work done. In conclusion: you’re left with a working capital headache.
The root cause of the extended delay in this scenario is that the expense collection process is linked to the invoicing run. However even if you have the slickest process in the consulting industry, and everyone puts their returns in on time, at best you’re collecting money somewhere around 45 days after delivery. Does that sound fair to you? Most purchases we make every day require payment before, or on delivery, so why can’t this be the case in consulting?
How to achieve a working capital requirement of zero:
The first step is to divorce the two processes of invoicing and expense administration. When you agree a piece of new business with a client, you ask for fees plus 15% for expenses (25% for foreign contracts) and agree to reconcile against actual expenses every 90 days. Most clients like this approach because it’s predictable. Not only that, if there’s one thing that causes most billing arguments with clients it’s the expense charge. This approach reduces the risk of conflict considerably.
Secondly, you bill them on day one. At this point we can see you shuffling in your seats but in reality, if you have difficulty with putting this to a client, then the problem is in your head and nowhere else. In our experience 8 out of 10 clients don’t even raise an eyebrow. This should be your start point when you sign a deal, the worst that can happen is you get into a debate and lose, but 80% of the time you’ll not even have to discuss it if you keep your nerve!
In summary, phasing should look like this:
Day 1 – Forward bill fees for next 30 days
Day 1 – Forward bill expenses for next 30 days
Day 30 – Clients settle account
Day 30 – Pay consultants
Day 90 – Reconcile expenses with client
Net Result – Zero working capital and cash positive
If you can put this into practice, you’re going to give a potential investor a warm and confident feeling about your business and it will increase your chances of a higher equity value.