Virtual CFO

Get to know your cost structures

Get to know your cost structures

When we start working with a business, one of the first things we do is review their historical Profit and Loss to get an understanding of sales growth and channels, margins, and cost structures. Whilst all really important, we often find business owners have a great handle on what drives their sales but not so much their costs.

The distinction between variable and fixed costs is an important one and the best businesses recognise this. To remain agile and be in a position to quickly react to changing market conditions requires intimate understanding of what cost are locked in versus those that are flexible, those that are business critical versus those that are nice to have and those that are lead or sales generators versus those that won’t bring an extra dollar through the door.

3 Tips to Combat Cash Flow Issues Now

3 Tips to Combat Cash Flow Issues Now

We’ve been working with a client who a few months back found themselves in a real spot of bother when it came to cash flow.

They were experiencing a sales slump which was heightened by some negative business events which were outside of their control. This perfect storm lead to a complete depletion of cash holdings in the business. Gone were the savings or cash buffers that once existing and these unfortunate business owners found themselves in unchartered waters with growing ATO debt, unpaid suppliers putting them on stop supply, and the inability to restock a warehouse with their top selling items. They had entered a vicious cycle and without quick action they knew they would be faced with ruin.

When we assessed all of the factors at play the number one priority for everyone was to get cash in and fast. It wasn’t about major structural or process changes. Sure, both were needed but right now they weren’t going to keep the business afloat. Quick wins were what we needed.

Strong margins will gear you for growth

Strong margins will gear you for growth

I know it seems like I’m constantly banging on about Cash flow and Gross Margin and that would probably be because I am. Healthy margins and cash flow almost always result in strong businesses that are geared for growth. This is what you should aim to be and hopefully our tips and blog posts are getting you one step closer to this.

To give you some context, we recently conducted a detailed margin review for a client who had experienced a decline in profit despite sales and overhead expenses tracking along as forecasted.

When setting the price point for their products, they calculated that they’d have a 55-60% gross margin (or 40% material costs), approx. 40% in overhead expenses and a net profit margin of approx. 20%. Good healthy financial results, which would result in a self-sustainable business that was cash flow positive and had the ability to invest in further research and development (R&D), whilst continue to aggressively advertise and promote their existing product range.

On paper the forecasts looked great. They were well thought out and appeared to be based on sound calculations. However 6 months into the financial year, things were not running to plan. Sales were strong, with many of their growth projections being met, however gross margin was tracking well below expectation. Instead to tracking along at 60%, the actual gross margin was only 45%. With 40% in overhead expenses, net profit before tax only represented 5% of total sales.

Really understanding your gross margin

Really understanding your gross margin

Let’s talk about your Gross Margin. Do you know what your margin is on the stock you sell or the services you offer? And if you do know, do you track its development? Often, I receive a yes to the first question, but the second questions is met with a blank stare or we’re told, I don’t need to, it doesn’t change. My response is always, are you sure about that?

So first things first, for those that aren’t all over it, let’s go over what this thing called a Gross Margin actually is. In a nutshell, your gross margin is the difference between what you invoice a customer for a product, and what you paid the supplier for that product, plus your on costs (inbound freight, duty, packaging ect). Different industries will have different margins on products, however your margin should be at a level that it covers your overhead/fixed business costs and leaves you with a reasonable profit.