Cash is King - Introduction to D&B's Guide to Cash Flow & Credit Risk

The following excerpt is the Introduction chapter to Dun & Bradstreet's new book D&B's Guide to Cash Flow and Credit Risk.  Order a copy of the book or learn more here

The global financial crisis has had a dramatic impact on the Australian business environment. Gone are the days of highly leveraged companies being the darlings of the share market. Risk is back and the new world has an aversion to risk. The rules of the game have changed.

The most significant change has been a return to fundamentals. Good businesses are now recognised as those that have low debt, strong cash flow and a clear focus on risk management. These business basics - which have been ignored by too many for too long - have returned with a vengeance.

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At the centre of the crisis is a lack of trust. Unsure of where the greatest risk lies, businesses have stopped dealing with each in the fear that they may be exposed to the next corporate failure. 

The greatest impact of this lack of trust has been felt in the credit markets - both bank and trade credit. Banks have reduced lending to each other and to the general business community. When new credit facilities are approved they often come with stringent conditions and higher costs than experienced in the past.

Businesses are also tightening up on their readiness to extend trade credit. As business to business payment terms continue to rise most organisations are reducing their payment terms or requiring cash on delivery.

In this environment, lenders - bank and trade credit providers - want to be convinced that they will get paid on time. This means ensuring that borrowers have low debt and strong cash flow to meet all expenses. Businesses that are unable to demonstrate that they meet this profile will struggle to get access to any form of credit.

While a lack of trust is at the heart of this problem, a broader problem is the inability of businesses to effectively assess risk. The boom of the last decade has allowed organisations to pay scant attention to credit assessment and monitoring. In the good times bad debt was low and many believed there was little need for risk assessment strategies. With the change in business conditions those businesses have been caught without effective strategies in place and are scrambling to catch up. Many are unsure of what an effective risk management strategy involves.

This is bad news for those businesses that haven't focused on the fundamentals. For those that have there is opportunity in the madness.

First, they will be more likely to weather the slowdown in sales and decline in profit margins due to the strength of their cash position. No business likes to see a slowdown in these key areas but a strong cash position helps businesses ride out the tough times and an effective risk assessment process should minimise the number of nasty payment surprises from customers.

Second, a strong cash position may enable them to pursue opportunities through acquisitions as prices come down and industries look to consolidate. It may seem harsh but the truth is that many businesses under pressure because of poor risk assessment and cash flow management strategies operate in industries that have long-term potential. The current environment may present the perfect opportunity to acquire long-term market share for a relatively small price.

Third, customers are still out there even though they may be spending less. For businesses in a relatively strong position this presents an opportunity to acquire new customers from previous competitors. While these new customers may be spending less, the reality is that they are likely to be loyal to businesses in the good times that were there for them in the bad times. 

However, in the same way that smart businesses have had to work the fundamentals to find themselves in a relatively strong position, they will now have to apply this focus to seize these new opportunities. This of course means a renewed focus on the fundamentals and the smart use of data. 

In the case of fundamentals, businesses need to ensure that new customer acquisition occurs within a rigorous risk assessment process. There is little value acquiring new customers, from your previous competitors, that don't pay on time. Remember, this is what got your competitors into trouble in the first place. 

Businesses also need to ensure they maintain a close eye on their cash flow position. The outlook for the economy has changed and so has the outlook for your customers. A risk assessment strategy involves more than just credit checking at the time of customer acquisition. It requires an ongoing commitment to monitoring and management, ensuring that you are aware of any issues which may turn a customer from a good to a bad risk.

The smart use of data requires a business to bring together all their various information sources to ensure they have the best picture of where opportunities exist. A mass marketing list may have been enough in the past. However, in the new environment smart businesses will begin with a targeted marketing list and then assess it against their existing portfolio and credit risk and receivables objectives. 

This approach will allow businesses to ensure their marketing is targeted at organisations that have a 'good customer' profile. Characteristics of such organisations include the potential to be high profit customers consistent with the profile of existing high profit customers, low credit risk and good payers.

This guide provides small businesses with advice and tips on how to manage cash flow and develop effective risk management strategies, particularly for credit assessment.

In this book you will find information that is used by some of the world's largest companies that rely on Dun & Bradstreet for credit risk assessment and cash flow management. 

The strategies and tactics of these big organisations don't have to be a secret and don't have to be difficult to implement. Small businesses can follow the same principles and rules and apply them to their own business environment.

Small business is the engine of the Australian economy and ensuring firms have effective risk assessment and cash flow management strategies in place is critical to our national economic health.

We hope you are able to apply best practice to your own business environment.

Purchase D&B's Guide to Cash Flow & Credit Risk here >>

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