opinion

Managing Cash Flow Is Imperative

Managing Cash Flow Is Imperative
Mitch Platt

“You must spend money to make money.” — Titus Maccius Plautus

“I’d say it’s been my biggest problem all my life … it’s money. It takes a lot of money to make these dreams come true.” — Walt Disney

Off the top of my head I can only think of one case where a financial institution gave credit to an adult company. You probably know what company I’m talking about because they became the leader of the industry.

When I was first starting out in this industry I worked alongside a grizzled old chief financial officer from Scotland. I say he was “old.” That was 20 years ago. Today I’m probably the same age as he was then. Ahh time…

One of the things he told me then still sticks with me today. He said, “Businesses don’t go bankrupt because of a lack of profits. They go bankrupt because they can’t pay their bills. Because they don’t have enough cash.”

He had a dark way of looking at the world. There is a sunnier view of cash flow, but it takes you to the same conclusion. It is that companies don’t grow because of a lack of cash. They go bankrupt in a different way by missing opportunities. Missed opportunities then lead to a lack of cash, too. It’s a downward spiral.

Companies need cash to fund their activities. What are those? To pay upfront for a new member then wait to get the money. Sometimes the member isn’t profitable for 12 months, even 18 months. You have to be holding a lot of cash to do those deals. And if you want to grow — get more new members today than you had yesterday — then you need more money than you have on hand.

It’s hard to get that cash. Off the top of my head I can only think of one case where a financial institution gave credit to an adult company. You probably know what company I’m talking about because they became the leader of the industry. In other words, the results were very, very good.

99 percent of adult companies do not have access to credit. They can’t get the money. Banks won’t lend to them. By contrast, most non-adult companies can get access to credit to grow, and they use it.

Because adult companies can’t get credit they need to manage their cash very carefully. They have to keep enough cash in the bank to survive.

They also have to have keep cash around for opportunities worth investing in.

If they don’t they go bankrupt fast (by not paying their bills) or slowly (by letting opportunities go to another player — a competitor — that has more cash).

How much cash should you keep in the bank? It depends on a couple of factors.

Will you have a sudden need for cash?

This need can come from good and bad reasons. Let’s start with the good. You have a huge, important opportunity that will fuel growth. This could be getting a new affiliate who can send traffic to you rather than a competitor. You want to lock up his traffic to secure your growth and deprive competitors of this traffic.

Then there are the bad reasons. You have to spend money just to stay alive. This happens when you get into legal trouble or the tax authorities come after you or some other nightmare comes to your business. It can also happen if an important revenue source dries up suddenly. Suze Orman, the personal finance guru, says to keep nine months of cash on hand for expenses in case a person were to lose their job. What is a reasonable buffer for your business?

How much cash do you want to keep on hand for the normal ebbs and flows of your business? If you pay your affiliates weekly on Mondays then the most cash you have on hand is on the Sunday before the payout. The lowest point would be Monday after the payout. You always need enough cash to be in the black on Monday — after the payout — to keep paying other bills. This amount forms part of your cash buffer.

You also have to pay employees once a week or two weeks or monthly depending on where your employees live. So you have to keep the cash on hand to pay them until payday arrives. That ties up cash, too.

Usually companies use a kind of rule of thumb for deciding on a cash buffer. Often it is four to six months of expenses. If your expenses are $100,000 per month then you would keep $400,000 or $600,000 in the bank.

Since it is a buffer you can’t use that cash for investing in your business. It holds back your growth. You also can’t pay that money to shareholders in the form of dividends. So shareholders get less value from the business than they could.

In most companies, cash flow isn’t given a lot of thought. It deserves more attention. Managing cash flow well ensures you can do three things that every company wants to do:

  1. Protect from unforeseen disasters
  2. Invest in growth
  3. Pay profits to owner

How can you improve your cash flow? There are three steps. Analyze your business. Look at the past. Look forward.

The past will tell you how much cash you typically need at your lowest point. This can be routine dips in cash like when payroll and payouts and production costs all happen at the same time. It can also show you when you have extraordinary expenses like legal bills.

Looking to the future will give you an idea of the opportunities that are available for investment. Is there an affiliate who can send more sales? Are there other promising areas that — with enough cash — you could profitably invest in to grow your business?

Then consider the return on investment for the owners. How much cash should owners be able to get from the business that is currently tied up.

It takes money to make money. The best way that adult companies can make more money and avoid bankruptcy is by managing cash better.

Mitch Platt is co-founder of Vendo, which uses artificial intelligence to power its billing platform that allows merchants to continuously improve and grow their businesses.

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