Financial Guide for SMEs

Financial

First published in 2011

Printed by Percetakan Jiwabaru Sdn Bhd Lot 14, No 2, Jalan P/8 Kawasan MIEL FASA 2, Bandar Baru Bangi, 43650 Bangi Selangor Darul Ehsan

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1 This Guide has been adopted from the Australian version entitled “Achieving Financial Success” (formerly known as the Financial Survival Guide) prepared by Jan Barned (CPA, FFTP), with the assistance of CPA Australia and Small Business Victoria. Ms. Barned who is the principal of Financial Management Trainer (www.fmtrainer.com.au), has worked in the fi nance industry internationally and in Australia for over twenty years.

SME Corporation Malaysia and CPA Australia have been granted the copyright to reproduce the Guide and to modify the content to suit the Malaysian context. The Guide will be a useful reference for entrepreneurs on fi nancial management which is a key success factor to any SME business, particularly for new entrepreneurs with little fi nancial background.

About the Guide

Copyright Notice

Copyright 2011 SME Corporation Malaysia and CPA Australia. All rights reserved. Subject to Copyright Act 1987 (Malaysia) and Copyright Act 1968 (Australia).

No part of this publication, including the contents, trademarks and trade names may be reproduced, stored in a retrieval system or transmitted in any form by any means including in websites, for commercial or non-commercial means without prior written permission of SME Corporation Malaysia and CPA Australia. Application for these uses shall be made directly to the Chief Executive Offi cer of SME Corporation Malaysia.

In reproducing or quoting the contents, acknowledgement of source is required.

Disclaimer

Whilst every effort has been made to ensure the accuracy of the information contained in this book, both SME Corporation Malaysia and CPA Australia accept no responsibility for any errors and / or inaccuracies it may contain, or for any loss, fi nancial or otherwise sustained by any person using information extracted from this book. All information and specifi cation are current at the time of preparation and are subject to change as may be required.

No part of this Product is intended to be treated as advice, whether legal or professional. You should not act solely on the basis of the information contained in the Product as parts may be generalised and may apply differently to different people and circumstances. Furthermore, as laws change frequently, all users are advised to undertake their own research or to seek professional advice to keep abreast of any reforms and developments in the law.

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Introduction

Glossary of Terms

Section I : Business Finance Basics

Chapter 1: Understanding Financial Statements Income Statement

Balance Sheet

Statement of Cash Flows

Chapter 2: Assessing the Financial Health of Your Business Liquidity Ratios

Solvency Ratios Profi tability Ratios Management Ratios Balance Sheet Ratios Chapter 3: Budgeting

Profi t and Loss Budget Assumptions

Monitoring and Managing Your Profi t and Loss Budget

Section II : Improving Business Finances

Chapter 4: Maintaining Profi tability Profi tability Measures Discounting Sales Expense Management

Chapter 5: Improving Cash Flow

Managing Inventory

Managing Payments to Suppliers Managing Work-in-progress Managing Receivables

Working Capital Cycle – Cash Conversion Rate

Table of Contents

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Chapter 6 : Managing Cash Flow

Cash and Profi t

Cash Flow Drivers in Your Business Cash Flow Forecasting

Section III

Chapter 7 : Debt, Equity or Internal Funds?

Comparing Debt Finance, Equity Investment and Internal Funds

Deciding Between Debt and Equity

Understanding the Debt Financing Options : Long-term versus Short-term

Chapter 8 : Transactional Banking to Suit Business Needs Transactional Banking Products

Merchant Facilities Transactional Fees Chapter 9 : Trade Financing

Foreign Currency Payments

Alternative Methods to Manage Foreign Currency Payments

International Trade Finance

Section IV : Managing Lenders

Chapter 10 : Applying For a Loan

Preparing for a Loan Application Details of the Loan Required Presentation of the Loan Application The Role of Advisers

Conclusion

: Financing Your Business

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4 Chapter 11 : Refi nancing Your Debt

How Refi nancing Works? Benefi ts of Refi nancing

Common Dangers in Refi nancing Switching Banks

Chapter 12 : Managing Your Banking Relationships Annual Review

Continuing Relationships Managing Diffi culties

Section V : Better Business Financial Management

Chapter 13 : Financial Controls Benefi ts of Financial Controls Financial Controls Checklist

Appendix

Acknowledgement

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5 Small and medium enterprises (SMEs) are often driven by the passion to achieve the owners’ desired outcomes. They may want to see a business grow from the start, be keen to enter into an industry that provides great challenge, or be motivated by personal reasons such as wanting to turn a hobby into a business or develop a long-term retirement plan. Whatever their reasons, many SME owners do not have formal fi nancial management training (that is they are not an accountant or bookkeeper) and usually have limited resources to pay for such services.

For the success of any business, good fi nancial management is necessary. Good fi nancial management will go a long way to ensure that all the available business resources are used effi ciently and effectively to provide optimum return.

This Guide has been designed to help SMEs to develop the fi nancial management skills that are essential for business success. Presented in easy-to-understand language, this Guide discusses the key fi nancial aspects that SMEs should focus on to ensure that good fi nancial management is in place. The areas discussed in the Guide address the fi nancial aspects that a business should consider and understand as part of good fi nancial management. If these practices are implemented early, the business would benefi t from strong fi nancial management and the owner would be equipped with the fi nancial tools to operate and grow a successful business.

It should be noted that some of the areas may not be relevant for all businesses. For instance, if you are providing a service, discussion on inventory management will not be relevant. Also, you have to keep in mind the type of industry that you are in when considering good fi nancial management. For example, if you run a café, you would probably be reviewing inventory levels every week; however, a small retail toy shop may only do an inventory count once a year.

This Guide has fi ve sections, each with a number of chapters to further elaborate on the key topics. There are hints and tips along the way to help you focus on the important messages and these are summarised in the Appendix for easy reference.

Introduction

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6 Accrual Accounting Accounting Entry Accounting Period Asset Break-even Budget Capital Expenditure Cash Accounting Cash Conversion Rate

Cash Flow

Cost of Goods Sold (COGS)

Recognising income and expenses when they occur rather than when they are received or paid for Basic recording of business transactions as debits and credits

A period for which fi nancial statements are prepared (normally monthly and then annually)

Anything having a commercial value that is owned by the business

Amount (in either units or value), that the business needs to achieve before a profi t is generated

A fi nancial plan for a business (allocating money that the business forecasts it will receive and spend); typically done once a year

Amount of money that is allocated or spent on assets

Accounting for transactions as they are received or paid

Overall number of days to convert a trade from the cash outfl ow at the beginning of the working capital cycle to cash received at the end of the cycle

Flow of cash into and out of the business Total cost of all goods sold during the period

Glossary of Terms

As with any topic, there is a wealth of jargon and terminology associated with fi nancial management. It is helpful for you to understand these terms when reading fi nancial statements or when talking to fi nance professionals such as bank managers. This will make you feel more confi dent and comfortable. The most basic and useful of these terms are set out below.

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7 Creditors Current Assets Current Liabilities Depreciation Drawings Equity Expenses Financial Ratio Financial Statements Forecasting Inventory Intangibles Liability Gross Margin Mark-up

Amount of money that the business owes the suppliers

Assets that are likely to be turned into cash within a 12-month period

Liabilities that are due within a 12-month period Writing-off of a portion of a fi xed asset’s value in a fi nancial period

Where the owner of the business takes something of monetary value permanently out of the business (can be in the form of cash or other assets) Amount that the business owes the owner

Costs associated with earning the business income Method by which the business can measure the fi nancial health and compare their business operations to similar businesses in the same industry

Record of the fi nancial performance and health of a business for a given period

Process of predicting the future fi nancial performance of a business

Stock that a business holds to sell

Assets that do not have a physical form e.g. patents, goodwill etc.

Amount of money that the business owes its external stakeholders

Profi t from sales before deducting overheads

Percentage by which the sales price exceeds the cost

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8 Owners’ Equity Overheads Profi t Purchase Order Receivables Revenue Retained Profi t Reserves Working Capital Work-in-progress

Amount of capital contributed to form the business or added later

Costs that are not directly associated with the products or services sold by the business

Income minus expenses

A commercial document issued by a buyer to a seller, indicating the type, quantity and agreed prices for products or services the seller will provide to the buyer

Amount that are owed to a business (sometimes referred to as debtors)

Income that the business earns from its operations Profi ts that have not been distributed to the owners Retained profi ts that are held for a specifi c purpose or the result of revaluation of assets

Excess of current assets over current liabilities Where an order has been taken from the customer and the business is in the process of “working” to complete the order

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9 Keeping the book for your business can

provide valuable information to enable you not only to prepare the fi nancial statements, but also to gain a better understanding on the fi nancial position of your business and have insights into how to improve business operations. Good fi nancial systems will assist in monitoring the fi nancial situation, managing the fi nancial position and measuring the success of your business.

In this fi rst section, we will look at the three key fi nancial statements and discuss on how you can use this information to improve business operations through ratio analysis and to prepare an operating budget.

Section I : Business Finance Basics

Implementing good fi nancial practices in

your business will provide sound fi nancial information that can

identify current issues and be used

to plan for the successful fi nancial

future of your business

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10

Chapter 1

Understanding Financial

Statements

11 • Income Statement;

• Balance Sheet; and • Statement of Cash Flows.

The fi nancial statements record the performance of your business and allow you and others to diagnose the strengths and weaknesses of your business by providing a written summary of the fi nancial activities for a given period. To proactively manage your business, you should plan to generate these fi nancial statements on a monthly basis, review the results and analyse for improvement. Let’s look at the financial statements and see how they can assist in monitoring your businesses fi nancial performance.

Financial statements provide information on

how the business is operating fi nancially and why. Ensuring that

these statements are produced regularly will provide fi nancial

information for continuous improvement of business operations Please note that this chapter is not designed

to assist you with the preparation of fi nancial statements but to familiarise you with what they look like and how they can be used to benefi t your business.

Every business requires some assets to be able to run the operations and ultimately make a profi t. This could be as simple as having cash in the bank, but is more likely to be a number of assets, such as inventory (only unsold inventory is an asset), offi ce equipment and perhaps even commercial premises. Since all of these items need to be paid for when starting up a business, the owners will need to invest their own money or borrow from a lender (e.g. bank) or investor.

There are three fi nancial statements that record fi nancial information of a business, which are:

Understanding Financial Statements

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12 The income statement is a summary of income and expenses for a business over a specific period. It should be prepared at regular intervals (usually monthly and at fi nancial year-end) to show the results of operations for a given period. Profi t or loss is calculated in the following way:

Only those businesses that have goods (products) to sell will use the calculation of

cost of goods sold

Income Statement

(Fixed & Variable)

Cost of Goods Sold _InventoryOpening

Inventory Purchase Inventory available for sale Closing Inventory Less Less Less Equals Equals Equals Equals Less Plus HINT

Calculating the cost of goods sold varies depending on whether the

business is retail, whole sale, manufacturing or a service business. In retail

and wholesale business, computing the cost of goods sold during the reporting period involves

beginning and ending inventories including purchases made during

the period. In manufacturing, it involves fi nished goods

inventories, plus raw materials inventories,

work-in-progress inventories, direct labour, and direct factory overhead

costs.

In the case of a service business, the revenue is

being derived from the activities of individuals rather than the sale of a product. Hence, the calculation of cost of goods sold is a smaller task due to the low level of

materials used to earn the income.

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13 Adam has decided to start his own business and has been doing some research. He will sell computer bag to computer manufacturers. He is going to leave his job and has saved some money to help him go through the start-up phase. He has decided that in the fi rst year, he is going to focus on getting the business established, so he believes that a small profi t (before interest and tax) of RM5,000 should be achievable. His research has shown that the expenses to set up and operate the business will be approximately RM15,600 for the year.

Case Study – Adam’s Computer Bags

From this information, Adam can see that he will need at least RM20,600 to cover the operating expenses and achieve his profi t goal. Adam’s research has also highlighted that it is reasonable to expect to sell at least 1,000 bags in the fi rst year. Adam has negotiated with a supplier to provide the bags for the cost price of RM31.20 each. Now we can work out according to Adam’s estimates, how much sales need to be made to reach the profi t goal.

Minimum selling price (RM51,800 divided by the1,000 bags that he will sell) equals to RM51.80 per bag.

Adam thinks that he will be able to sell the bag for RM52.00 each. So, at the end of the fi rst year, if all goes according to the plan, his income statement would look like this:

Profi t

Profi t

RM5,000

RM5,000

plus operating expenses

plus operating expenses (cost of goods sold)

to achieve his targeted profi t

RM15,600

RM15,600 Total cash needed

Plus cost of 1,000 bags

Adam will need a total of RM20,600 RM31,200 RM51,800 chapter 1 01-21 Eng.indd 13 chapter 1 01-21 Eng.indd 13 8/15/11 5:01:23 PM8/15/11 5:01:23 PM

14

Revenue

Sales

Total Sales

Cost of Goods Sold (COGS)

Opening Inventory Inventory Purchases Less Closing Inventory

Total Cost of Goods Sold

Gross Profi t Expenses

Advertising

Bank Service Charges Insurance

Payroll

Professional Fees (Legal, Accounting) Utilities & Telephone Others:

Computer Software

Total Expenses

Net Profi t Before Tax

52,000 52,000 - 34,320 3,120 31,200 20,800 500 120 500 13,000 200 800 480 15,600 5,200 RM RM RM RM RM RM RM RM RM RM RM RM RM RM RM RM

Adam’s Computer Bags

Income Statement

For the Year Ending Year One

(1,000 bags @ RM52 each)

(See details on the next page)

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15 Towards the end of the year, Adam managed to purchase 100 more bags on credit from his supplier for an order in the new year. This leaves him with RM3,120 of inventory on hand at the end of the year.

Calculation for Adam’s Cost of Goods Sold

Opening inventory Nil

Plus inventory purchased during the year RM34,320 Equals inventory available for sale RM34,320 Less inventory on hand at the end of RM 3,120 the year

Cost of goods sold RM31,200

For a service business, the income statement will usually not have a calculation of cost of goods sold. In some instances, where labour costs can be directly attributed to sales, you may consider including these costs as the cost of goods (services) sold.

(1,100 bags @ RM 31.20 each)

(100 bags @ RM 31.20 each)

Regularly (monthly) produce profi t and loss information and compare against activities in the previous months to ensure that your profi t

expectations are being met TIP

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16 The balance sheet refl ects the fi nancial health of a business at a given time (usually the end of a month or fi nancial year). It lists in detail the various assets that the business owns, the liabilities and the value of the shareholders’ equity or net worth of the business:

• Assets are the items of value owned by the business;

• Liabilities are the amount of money owed to external stakeholders of the business; and

• Shareholders‘ equity or shareholders’ fund is the amount that the business owes the owner.

Balance Sheet

balance sheet works. The business

requires assets to operate and these assets will be funded from the equity in the business, the profi t from the operations of the business or by

borrowing money from external parties.

The balance sheet can also be illustrated as:

The diagramme above shows that the value of all assets owned by the business less the value owed to external stakeholders (liabilities) will equal the shareholders’ fund of the business – that is, the value of the business after all debts have been paid.

HINT

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17 •

•

•

Assets may include cash, inventories, land, buildings, equipment, machinery,

furniture, patents and trademarks, as well as money due from individuals or other businesses (known as debtors or receivables).

Liabilities may include funds made available to the business from external

stakeholders by way of loans, overdrafts and other credit used to fund the activities of the business including the purchase of capital assets and inventory and for the payment of general business expenses.

Shareholders’ equity (or net worth or capital) is the money put into a business

by its owners for use by the business in acquiring assets and paying for the cash requirements of the business.

For assets and liabilities, a further classifi cation is made to assist in monitoring the fi nancial position of a business. These classifi cations are referred to as “current” and “current”. Current refers to a period of less than 12 months and non-current is any period greater than 12 months.

The balance sheet will list non-current assets followed by current assets. Non-current assets are assets that will continue to exist in their Non-current form for more than 12 months. These can include furniture and fi ttings, offi ce equipment, company vehicles etc. While current assets will include items that are likely to be turned into cash within a 12-month period such as cash in the bank, monies owed from customers (referred to as receivables), inventories and other assets. Similarly, the balance sheet will include non-current liabilities followed by current liabilities. Non-current liabilities are all the loans from external stakeholders that do not have to be repaid within the next 12 months. Meanwhile, current liabilities are those monies that must be repaid within 12 months and would typically include bank overdrafts, credit card debt and monies owed to suppliers (referred to as payables). These will be followed by shareholders’ fund or equity.

Balance Sheet Categories

Balance Sheet Classifi cations

TIP

A prosperous business will have assets of the business funded by profi ts rather than being heavily dependent on funding from either external parties

(liabilities) or continuous cash injections from the owner (equity)

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18 Based on the case study of Adam’s Computer Bags, his balance sheet at the end of year one would look like as follows:

Adam’s Computer Bags

Balance Sheet

For the Year Ending Year One

TOTAL LIABILITIES AND EQUITY RM54,820

0 0 Total Non-Current Assets

Total Current Assets

Total Non-Current Liabilities

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19 The statement of cash fl ows is a summary of money

coming into, and going out of, the business over a specifi c period. It is also prepared at regular intervals (usually monthly and at fi nancial year-end) to show the sources and utilisation of cash for a given period. The cash fl ows (in and out) are summarised on the statement into three categories: operating activities, investing activities and fi nancing activities.

Operating activities: These are the day-to-day activities that arise from the

selling of goods and services and usually include: • Receipts from income;

• Payments for expenses and employees;

• Payments received from customers (receivables); • Payments made to suppliers (payables); and • Inventory movements.

Investing activities: These are the investments in items that will support or

promote the future activities of the business. They are the purchase and sale of fi xed assets, investments or other assets and can include items such as: • Payment for purchase of property, plant and equipment;

• Proceeds from the sale of the property, plant and equipment;

• Payment for new investments, such as shares or fi xed deposits; and • Proceeds from the sale of investments.

Financing activities: These are the methods by which a business fi nances its

operations through borrowings from external stakeholders and equity injections, the repayment of debt or equity, and the payment of dividends. Following are examples of the types of cash fl ow included in fi nancing activities:

• Proceeds from the additional injection of funds into the business from the owners; • Money received from borrowings;

• Repayment of borrowings; and

• Payment of drawings (payments taken by the owners).

Statement of Cash Flows

Statement of cash fl ows only shows the historical data and differs from a cash fl ow forecast

HINT

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20 • Cash receipts are less than cash payments (i.e. you are running out of money); • Net operating cash fl ow is an “outfl ow” i.e. it is negative; and

• Net operating cash fl ow is less than profi t after tax (i.e. you are spending more than you earn).

As mentioned earlier, the statement of cash fl ows can be a useful tool to measure the fi nancial health of a business and can provide helpful warning signals. Three potential warning signs which, in combination, can indicate the potential for a business failure are:

Use the Cash Flow Statement to analyse if you are spending more than you are earning or drawing out too much cash from the business

TIP

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21

21

22

Adam’

s Computer Bag

Statement of Cash Flows

For the Y ear One Adam’ s Computer Bag For the Y ear Ending Y ear One Balance Sheet Inventory Movements

Receipts from income

Cash flows from operating activities Payments of expenses Funding to Debtors Funding from Creditors Cash flows from investing activities Proceeds from owners (equity) Net cash from financing activities

RM 52,000 RM 52,000 RM 52,000 0 RM 34,320 RM 3,120 RM 31,200 RM 20,800 RM 15,600 RM 5,200 –RM 15,600 –RM 18,000 –RM 34,320 –RM 28,600 –RM 28,600 RM 40,000 RM 5,500 RM 45,500 RM 5,100 0 RM 5,100 –RM 1 1,800 RM 4,120

Net cash from operating activities Payments for property, plant and equipment Net cash from investing activities Increase in Short T Net increase in cash Cash balance as at start of year Cash balance as at end of year

erm Debt

Increase in Long T

erm Debt

Opening Inventory Stock Purchases Less Closing Inventory

Income

Sales

T

otal Sales

T

otal Cost of Goods

Gross Profit

Sold (COGS)

Cost of Goods Sold _{Expenses T}

otal

Net Profit before Tax

21 Adam’ s Computer Bag Income Statement As At End of Y ear One Inventory TOT AL ASSETS

NET ASSETS Total Shareholders’

Equity

Owners Funds Current Year Profit

T OT AL LIABILITIES T OT AL LIABILITIES A N D E Q U IT Y Debtors Cash

Current Assets Non-current Liabilities Total-Non current Liabilities

RM 5,100 RM18,000 RM 3,120 RM 26,220 RM 54,820 RM 40,000 RM 45,200 RM 45,200 RM 9,620 RM 5,200 RM 54,820 0 0

Credit Card Creditors

Current Liabilities Shareholder’s Equity

T

otal Current Liabilities

RM 9,620

RM5,500 RM4,120

Store Firnishing Office Equipment

Computer

Non-Current Assets

Here is an example of Adam’s Statement of Cash Flows, showing the relationship between the Income Statement and the Balance Sheet.

T otal Non-Current Assets T otal Current Assets RM 28, 00 6 RM 5,500 RM 8,100 RM15,000

Cash flows from financing activities

Financial Guide for SMEs

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22

Chapter 2

Assessing the Financial Health

of Your Business

Chapter 2-5 p22-65 Eng.indd 22

23 Financial ratio

analysis will provide the important warning signs that could allow you to

solve your business problems before

they destroy your business A helpful tool that can be used to predict the

success, potential failure and progress of your business is fi nancial ratio analysis. By spending time doing fi nancial ratio analysis, you will be able to spot trends in your business and compare the fi nancial performance and condition with the average performance of similar businesses in the same industry.

Although there are many fi nancial ratios that you can use to assess the health of your business, in this chapter we will focus on the main ones that can be easily used. The ratios are grouped together under the key areas that you should focus on.

These ratios will assess the ability of your business to pay its bills in due time. They indicate the ease of turning assets into cash and include the current ratio, quick ratio, and working capital (which are discussed in detail in Chapter 5).

In general, it is better to have higher ratios in this category, that is, more current assets than current liabilities as an indication of sound business activities and an ability to withstand tight cash fl ow periods.

Liquidity Ratios

Current ratio = Total current assets Total current liabilities

Use these ratios to assess if your

business has adequate cash to pay

debts in due time

One of the most common measures of fi nancial strength, this ratio measures whether the business has enough current assets to meet its debt obligations with a margin of safety. A generally acceptable current ratio is 2 to 1; however, this will depend on the nature of the industry and the form of its current assets and liabilities. For example, the business may have current assets made up predominantly of cash and would therefore survive with a relatively lower ratio.

HINT

Assessing the Financial Health of Your Business

Chapter 2-5 p22-65 Eng.indd 23

24

Quick ratio = Current assets – inventory Current liabilities – overdraft

Sometimes called the “acid test ratio”, this is one of the best measures of liquidity. By excluding inventories which could take some time to turn into cash unless the price is ”knocked down,” it concentrates on real, liquid assets. It helps to answer the question: If the business does not receive income for a period, can it meet its current obligations with the readily convertible ”quick” funds on hand?

The quick ratio will give you a good indication of the “readily” available cash to meet current debt obligations

TIP

Chapter 2-5 p22-65 Eng.indd 24

25 These ratios indicate the extent to which the

business is able to meet all its debt obligations from sources other than cash fl ow. In essence, it answers the question: If the business suffers from reduced cash fl ow, will it be able to continue to meet the debt and interest expense obligations from other sources? Commonly used solvency ratios are:

Leverage ratio = Total liabilities Equity

Debt to assets = Total liabilities Total assets

These ratios indicate the extent to which the business is able to meet the debt obligations from all sources, other

than just cash fl ow, as in the case with liquidity ratios

The leverage (or gearing) ratio indicates the extent to which the business is dependent on debt fi nancing versus equity to fund the assets of the business. Generally speaking, the higher the ratio, the more diffi cult it will be to obtain future borrowings.

This measures the percentage of assets being fi nanced by liabilities. Generally speaking, this ratio should be less than 1, indicating adequacy of total assets to fi nance all debt.

TIP

Solvency Ratios

HINT

These ratios measure if your business has adequate long-term cash

resources to cover all debt obligations

Chapter 2-5 p22-65 Eng.indd 25

26

Gross margin ratio = Gross profi t Revenue

Net margin ratio = Net profi t Revenue

This measures the percentage of sales proceeds remaining (after obtaining or manufacturing the goods sold) to pay the overhead expenses of the business.

This measures the percentage of sales proceeds left after all expenses (including inventories), except income taxes. It provides a good opportunity to compare the return on income of the business with the performance of similar businesses.

Comparing your net and gross margin calculations to businesses within the same industry will provide you with comparative information and may highlight possible scope for improvement

in your margins TIP

Profi tability Ratios

These ratios will measure your business performance and ultimately indicate the level of success of your operations. More discussion on these measures is included in Chapter 4.

HINT Use gross and net margin calculations

to measure and monitor the profi tability of your business operations

Chapter 2-5 p22-65 Eng.indd 26

27

Management Ratios

Management ratios monitor how effectively you are managing your working capital, that is, how quickly you are replacing your inventories, how often you are collecting debts outstanding from customers and how often you are paying your suppliers. These calculations provide an average that can be used to improve business performance and measure your business against the industry average (refer to Chapter 5 for more details).

Days inventory = Inventory x 365 Cost of goods sold

Days debtors = Accounts receivable x 365 Net income

Days creditors = Accounts payable x 365 Cost of goods sold

This ratio reveals how well your inventory is being managed. It is important because it will indicate how fast inventory is being replaced. Usually, the higher number of times the inventory can be turned in a given operating cycle, the greater the profi t.

This ratio indicates how well the cash from customers is being collected - referred to as accounts receivable. If accounts receivable are excessively slow in being converted to cash, the liquidity of your business will be severely affected (accounts receivable is the total outstanding amount owed to you by your customers).

This ratio indicates how well accounts payable are being managed. If payables are being paid on average before agreed payment terms or before debts are being collected, cash fl ow will be affected. If payments to suppliers are excessively slow, there is a possibility that relationship with the supplier will be damaged.

Comparing your management ratio calculations to businesses within the same industry will provide you with comparative information that may

highlight possible scope for improvement in your trading activities TIP

HINT Use the number of days for inventory, debtors and creditors

to calculate the cash conversion rate for

your trading activities

Chapter 2-5 p22-65 Eng.indd 27

28

Return on assets = Net profi t before tax x 100 Total assets

Balance Sheet Ratios

These ratios indicate how effi ciently your business is using assets and equity to make a profi t.

Return on Investment = Net profi t before tax x 100 Equity

This measures how effi ciently profi ts are being generated from the assets used in the business. The ratio will only have meaning when compared with the ratio of others in similar industry. A low ratio in comparison with the industry average indicates an ineffi cient use of business assets.

The return on investments (ROI) is perhaps the most important ratio of all as it tells you whether or not all the efforts put into the business is yielding an appropriate return on the equity generated, in addition to achieving the strategic objective.

These ratios will provide an indication of how effective is your investment in the business

TIP

Use the return on assets and investment ratios to assess the effi ciency

in the use of your business resources

HINT

Chapter 2-5 p22-65 Eng.indd 28

29

Chapter 2-5 p22-65 Eng.indd 29

30

Chapter 3

Budgeting

Chapter 2-5 p22-65 Eng.indd 30

31 Budgeting is the tool that develops the

strategic plans of the business into a fi nancial statement by setting out forecasted income, expenses and investments for a given period. The budget will enable you to evaluate and monitor the effectiveness of the strategic plans as they are implemented and to adjust the plan wherever necessary. Most SMEs operate without large cash reserves to draw on; therefore, budgeting will provide the financial information required to assess if the strategic plans will support the ongoing operations. In short, budgeting is the process

of planning your fi nances over a period. Budgeting can also provide an opportunity to plan for several years ahead in an effort to identify changing conditions that may affect the business operations and lead to fi nancial diffi culties.

In short, budgets are one of the most important fi nancial statements, as they provide information on the future fi nancial performance of the business. If the budgets are planned and managed well, they will be the central fi nancial statement that allows you to monitor the fi nancial outcome of the implementation of your strategic plans.

Preparation of strategic goals; •

Budgeted timeline that is aligned to the preparation of fi nancial statements; •

Regular comparison of budgets against actual fi nancial results as disclosed •

in the fi nancial statements; and

Scope for amending activities and targets. •

Budgeting

A budget is the future fi nancial plan of the business. It is where

the strategic plans are translated into fi nancial numbers to ensure that these plans are fi nancially

viable

Good practice budgeting requires the following:

Chapter 2-5 p22-65 Eng.indd 31

32

Preparing Profi t and Loss Budget

The key to successful preparation of a profi t and loss budget is to undertake the process in an orderly manner, involving all key staff and ensuring that the goals of the business are clearly understood prior to the preparation. There are two methods of preparing a profi t and loss budget:

Incremental

• – where the activities carried out in the previous year are used as the basis for budget preparation.

Zero-based

• – where the budget is prepared without consideration of past activities.

A profi t and loss budget is an important tool for all businesses because where activities can generate profi t, your business will be less dependent on external funding. The budget is a summary of expected income and expenses set against the strategic plans for the budget period. This is usually one year, although, in some cases, the period can be shorter or longer, depending on the purpose of the budget.

Although your accountant can be of assistance in the preparation of this budget, it is important that you understand how it has been developed and know how to monitor the outcomes against the prepared budget to ensure that your business will achieve the required fi nancial outcomes.

Profi t and Loss Budget

By preparing a profi t and loss budget annually, you will be in a position to determine if your future business plans will support the ongoing activities of your business Hint

For annual budgeting, the preferred method would be incremental, as zero-based budgeting would require an enormous amount of dedicated resources and time. In the case of project-based or activity-based budgets, zero-based may be more suitable, particularly for new projects where there is no previous fi nancial data.

Chapter 2-5 p22-65 Eng.indd 32

33

Assumptions

An annual budget preparation policy should be documented and followed, and could include some or all of the following steps:

Review the approved strategic plan and record all required activities for the 1.

budget period.

Separate activities into existing and new for the new budget period. 2.

Identify and document all assumptions that have been made for the budget 3.

period.

Review the income statement in the previous year by regular period (monthly, 4.

quarterly etc.).

Prepare the profi t and loss budget for the selected period using all the steps 5.

listed above.

An independent profi t and loss budget can be developed for separate projects to assess the fi nancial viability of each project

TIP

All assumptions made during the planning process of preparing budgets should be realistic and documented HINT To ensure that your budget will be a useful tool, you

need to spend some time planning on what you think is going to happen in your business in the future. As you are preparing your estimates on income and expenditure, you will be estimating how your business will operate in the future and these are referred to as assumptions. When determining your assumptions, it would be best to use realistic targets that you believe will be achievable. Using your historic fi nancial information and looking for any trends in this information is a good place to start. Also, any industry information provided by independent reputable companies will give your assumptions credibility. This

is particularly useful when you are going to provide your budget to a potential or current lender or investor.

Make sure you write down all the assumptions and then establish a fi nancial number that reflects the event. Once you have completed the table of assumptions, attach them to the budget. This way, you will remember what you anticipated to happen and when reviewing your budget against the actual fi gures, this will help to determine why the actual results may not be the same as your budgeted numbers.

Chapter 2-5 p22-65 Eng.indd 33

34 When listing your assumptions, if you believe there is some risk that the event may not occur, include this detail, together with any actions you could undertake if a particular assumption turns out to be incorrect so that you would already have an action plan in place. Let us return to Adam’s Computer Bags and see how he is going to set his budget for year two of his business.

Using his fi rst year income statement, Adam is now going to set some assumptions for the second year of his business.

Assumption Table Assumption Sales Review inventory holdings and operating expenses Increase by 50% Forward orders Sales remain constant or decrease Stock prices increase Source new supplier Reduce salary expense Review operational activities to identify possible savings in expenditure Cash fl ow shortage Cash fl ow shortage Current supplier contract In line with industry standards Required for sales and marketing Remain at 60% of sales Increase to RM19,500 Purchase vehicle and include running expenses Cost of goods Salaries Vehicle expense

Forecast Source Risk Action

Introduce marketing programme

Chapter 2-5 p22-65 Eng.indd 34

35 We can see Adam is now confi dent that, in the second year, he can increase his sales by 50%. Of course, with increased sales, comes an increase in expenditure to support the sales. Therefore, he has developed a plan of what the year two income statement will look like.

Adam will need to monitor his actual results, checking them against this budget, to ensure that his plan will be achieved.

Revenue Sales Total Sales RM 52,000 RM 52,000 RM 31,200 RM 20,800 RM 15,600 RM 5,200 RM 5,850 RM 25,350 RM 31,200 RM 46,800 RM - RM 34,320 RM 3,120 RM 500 RM 1,000 RM 120 RM 200 RM 500 RM 550 RM 13,000 RM 19,500 RM 200 RM 420 RM 250 RM 800 RM 880 RM 480 RM 100 RM 3,120 RM 49,920 RM 6,240 RM 78,000 RM 78,000 Opening inventory Inventory purchases Less closing inventory

Cost of Goods Sold (COGS)

Total Cost of Goods Sold Gross Profi t

Expenses total Expenses

Advertising

Bank service charges Insurance

Payroll

Professional fees (legal, accounting)

Stationery

Utilities & telephone Vehicle expenses Other: computer software

Net Profi t Before Tax

Adam’s Computer Bags Income Statement

When documenting your assumptions, include both the risk assessment of each assumption and the anticipated action required to match the risk. By doing this, you will be well prepared and have an action plan already in place

if the actual events do not match your assumptions TIP

As at end of Year One As at end of Year One

RM 2,450 0

0

Chapter 2-5 p22-65 Eng.indd 35

36 HINT

Remember, the more regular the reports,

the faster operations can be reviewed for fi nancial

impact and action can be implemented

immediately whenever

required

Monitoring and Managing Your Profi t and Loss Budget

There are a number of ways in which the profi t and loss budget can be managed. As mentioned in Chapter 1, regular preparation of fi nancial statements is important, particularly the income statements so that the actual activities can be compared against the budget. Standard practice would be to prepare monthly statements. However, for smaller businesses, quarterly preparation and comparison may be suffi cient.

Where the income statement is prepared on a monthly basis, the budget will need to be separated into months for the budget period. At the end of each

month, the actual results are compared with the budgeted results to analyse any variances. Such variances should be highlighted on the reports and explanations to be provided. All variances should be categorised as either a “timing” or “permanent” variance.

A timing variance is where the estimated result did not occur but is still

expected to happen at some point in the future.

A permanent variance is where the expected event is not likely to occur at

all.

The power of this analysis is that each variance is documented for future reference, and whenever required, actions can be taken to counteract future variances or implement new or improved activities to ensure that the strategic goals underlying the budget can still be achieved.

Regular review of budget against actual results will provide information on whether your business is on track to achieve the

plans formulated when you fi rst prepared your budget TIP

Chapter 2-5 p22-65 Eng.indd 36

37 Improving business

fi nances means you need to take a practical approach to implement new processes that allow

you to monitor the key aspects of your business profi tability

and cash fl ow Now that you have been introduced to the

basics of business fi nance, you can use these tools to improve the fi nancial management of your business. Proactive management of the fi nancial position of your business would ensure that any issues encountered will be identifi ed early so that appropriate actions to rectify the situation can be taken in a timely manner. Through the use of the fi nancial information discussed in the fi rst section of the Guide, and by implementing the processes introduced in this section, you would be on the way to achieving good fi nancial management for your business.

Profi tability and cash fl ow are the key areas that should be monitored on an ongoing basis to help ensure that your business prospers. This section of the Guide presents a number of easy-to-understand procedures and tools that can assist you in maintaining profi tability and improving cash fl ow.

Managing the business fi nances is all about taking a practical approach to maintaining profi tability and improving cash fl ow, together with having the discipline to continuously monitor and update the financial information as circumstances change.

Section II : Improving Business Finances

Chapter 2-5 p22-65 Eng.indd 37

38

Chapter 4

Maintaining Profi tability

Chapter 2-5 p22-65 Eng.indd 38

39 HINT

Using the profi tability measures provided will

ensure that you are aware of any reduction in profi t as it occurs and

understand what level of sales is required for

the business to generate profi t It is very easy for profi tability to be eroded

if you do not measure and monitor on a regular

basis. Therefore, it is important to understand

how to use the tools available to continuously

evaluate the profi tability of your business One of the most important issues for

any business is maintaining profi tability. A profi table business will ensure that you can manage your business in line with your overall strategic objective, whether it is to grow the business, sell at a later date, or to achieve some other objective.

In this chapter, we will be looking at three useful tools that will help you monitor the profi tability of your business. We will also discuss on how discounting can affect your profi t, and how to manage the expenses of the business to maintain profi tability.

Once you have an income statement, you can use the tools explained below to ensure that you know:

Your profi ts are not being eroded by •

increasing prices in inventories or expenses – Margin.

•

How to set new selling price when inventory •

costs increase – Mark-up. •

How much you need to sell before the •

business is making a profi t – Break-even

analysis.

Maintaining Profi tability

Profi tability Measures

Chapter 2-5 p22-65 Eng.indd 39

40

Net Margin is the sales amount left after subtracting both the cost of goods

sold and the overhead expenses. The net margin will tell you what is your profi t before you pay any tax. Tax is not included because tax rates and tax liabilities vary from business to business for a wide variety of reasons, which means that making comparisons after taxes may not provide useful information. The margin can be expressed either in value (net profi t) or in percentage. The percentage value is particularly useful if you are comparing your business with other businesses in your industry or with past performance of your business.

Net profi t (RM) = Net sales less gross profi t less overhead expenses

Gross margin (%) = Net sales value X 100

Net margin (%) = Net sales value X 100 Gross profi t (RM) = Net sales less

cost of goods sold

Gross profi t value

Net profi t value

Margin

There are two margins that need to be considered when monitoring your profi tability: gross and net. For a service business, only net margin would be relevant, as it is unlikely that there would be a direct cost of service provided.

Gross margin is the sales proceed left after subtracting the cost of goods sold

from net sales. What does it mean by “net sales”? This is all the sales amount less any discounts that have been given to customers and commissions paid to sales representatives. By knowing what your gross margin is, you can be sure that the price set for your goods will be higher than the cost incurred to buy or manufacture the goods (gross margin is not commonly used for service businesses, as they often do not have “cost of goods”) and you have enough money left to pay expenses and hopefully, make some profi t.

Gross margin can be expressed either in value (gross profi t) or in a percentage, that measures the percentage of sales proceed remaining (after obtaining or manufacturing the goods sold) to pay the overhead expenses of the company. The percentage value is particularly useful if you are comparing your business with other businesses in your industry or with past performance of your business.

Chapter 2-5 p22-65 Eng.indd 40

41 Mark-up is the amount that you sell your goods above the cost to purchase or manufacture those goods. It is generally only a meaningful fi gure when referring to the sale of products rather than services. It can be useful to use mark-up calculation to ensure that you set the selling price at a level that covers all costs incurred with the sale.

Mark-up is calculated as follows:

The break-even calculation shows how much sales are required, in either value or units, before all the expenses are covered and actual profi t begins.

This simple calculation is used to fi nd where profi t really starts. The break-even point is calculated as follows:

If we remember Adam’s income statement for year one (in Chapter 1), we can use this to calculate the profi tability measures for his business.

Sales less cost of goods sold Cost of goods sold

[Expenses / 1 less (Cost of Goods Sold)] (Net Sales)

Break-even (%) = Expenses / (Unit selling price less Unit cost to produce)

Mark-up Break-even Calculation Percentage value = X 100 Break-even (RM) = Chapter 2-5 p22-65 Eng.indd 41 Chapter 2-5 p22-65 Eng.indd 41 8/15/11 5:01:55 PM8/15/11 5:01:55 PM

42

Adam’s Computer Bags Income Statement For the Year Ending

Year One

Summary of Adam’s Computer Bags Profi tability Measures

Sales Less cost of goods sold Gross profi t Less operating expenses Net profi t RM5,200 (10) RM15,600 (30) RM20,800 (40) RM31,200 (60) RM52,000 (100)

Sales less cost of goods sold Mark-up (%) = Cost of goods sold

= = 66.67%

Net sales - cost of goods sold Gross margin (%) = Net sales = = 40% Net margin (%) = = = Expenses

Break-even (RM) = 1 less (Cost of goods sold) (Net sales) RM15,600 = 1 less (RM31,200) (RM52, 000) = RM15,600 1 less 0.6

= RM39,000 sales required before any profi ts can be made

Mark-up 66.67% Gross margin 40 % Net margin 10 % Break-even RM39,000

Compare your profi tability measures to

the businesses within the same industry to

ensure that you are being competitive and

achieving maximum profi t potential X 100 X 100 X 100 X 100 RM52,000 less RM31,200 RM52,000 less RM31,200 RM31,200 RM52,000

Net profi t (value) Net sales (value)

RM5,200 10% RM52,000 TIP % Chapter 2-5 p22-65 Eng.indd 42 Chapter 2-5 p22-65 Eng.indd 42 8/17/11 1:34:38 PM8/17/11 1:34:38 PM

43 HINT

You may want to consider offering your customers

add-on services as an alternative to offering

discounts

The Effect of Discounting

And your present Gross Margin (%) is ... 10%

100% 5%

If you cut your prices by... 6% 8% 10% 12% 15% 150% 400% 114.3% 200% 400% 66.7% 100% 150% 300% 150% 100% 75% 60% 47.1% 66.7% 92.3% 36.4% 50% 66.7% 29.6% 40% 52.2% 25% 33.3% 42.9% 50% 66.7% 33.3% 42.9% 25% 31.6% 20% 25% 16.7% 20.7% 14.3% 17.6% 15% 20% 25% 30% 35% 40%

Discounting your goods or services to entice customers to purchase may erode your profi ts. Of course, some discounting can be benefi cial; however, before you decide to offer discounts, it is important to understand the impact that discounting will have on your profi ts. Alternatives such as add-on products or services may deliver more value of gross profi t to the business and should be considered before deciding to offer discounts.

Discounting Sales

In the previous section, we discussed sales “net” of discounts. When you offer discounts you are effectively offering your goods or services at a reduced selling price. Where discounts are offered, you will need to sell more goods in order to achieve your gross margin.

Let us return to Adam’s Computer Bags. He is considering offering a 5% discount to encourage more sales. Adam needs to keep his gross margin at 40% to ensure that he reaches his profi t goal. As the table below shows, if he decides to discount his bags by 5%, he will need to increase his sales volume by 14.3%.

Chapter 2-5 p22-65 Eng.indd 43

44 If we put some numbers to this, we can see the results in the box below:

Adam wants to discount his bags by 5%. To maintain gross margin of 40%, he will need to increase sales units by 14.3%.

Adam is currently selling 1,000 bags

Increase volume by 14.3% = 1,000 + (1,000 x 0.143) = 1,143 bags To maintain gross margin (and achieve target profi t), Adam will need to sell 1,143 bags if he sells at 5% discount.

Adam’s Computer Bags

The same would apply to a service business; if selling price is cut by 5% and the net margin is 30%, sales will need to increase by 20% to ensure all operating costs are covered.

Chapter 2-5 p22-65 Eng.indd 44

45 To maintain constant control on expenses, continuous review will help you to identify where costs are getting out of hand. Do not forget to use the profi tability measures, as they are the simplest way to quickly identify if your profi ts are being eroded. Some other ideas to manage expenses are to consider joining forces with other businesses to benefi t from group buying, investigate using companies that provide access to discount services for bulk orders, and to seek quotes from different services to ensure that you are paying the best possible price for your expenses. Often, if you are a member of an industry association, the association may have established relationship with service providers such as insurance companies and you may be able to access discounted services or products through your membership.

However, be careful not to focus too much on individual expenses. The value you may save from such an exercise may be outweighed by the cost of your time and the aggravation such a focus may cause your staff, suppliers or customers.

Good management of general expenses by the business will contribute to increasing profits. By monitoring business expenses, you may be able to identify where costs are increasing and take action to ensure that you maintain your net profi t margin. When monitoring expenses, do not forget to identify the expenses that are important to your business operation (e.g. presentation of premises, marketing, staff training) and keep these at sustainable levels.

HINT

Keeping a close eye on your expenses will ensure that you

maintain the profi tability of the

business

Expense Management

TIP

Look for opportunities to join with other businesses for “group” buying that can provide discounts on your expenses

Chapter 2-5 p22-65 Eng.indd 45

46

Chapter 5

Improving Cash Flow

Chapter 2-5 p22-65 Eng.indd 46

47 Often referred to as “the working capital cycle”, this is really about the length of time it takes from using your cash to purchase inventory (or perhaps getting it from a supplier on credit terms), and using the inventory, possibly for a manufacturing purpose (hence creating part of the cycle called “work-in-progress”), to securing the sales and receiving the cash.

Here is a diagramme of the working capital cycle:

Manufacturer or Product Provider Service Provider CASH

CASH

Sales Debtors

Debtors Purchase_Inventory

Supplier Payment

Work-in-progress Sales

Working capital is the short-term capital that works for the business. This includes inventory,

work-in-progress, payment to suppliers

and receipt from customers. By working

on your cycle more effi ciently, you would

have more readily available cash to use in

other parts of the business One of the most important aspects of

running a business is to ensure that there is adequate cash fl ow to meet all of the short-term obligations. The survival of your business will depend on this. Referred to as working capital management, this is all about setting up strategies to ensure that there is enough cash in the business to operate on a day-to-day basis without facing a cash fl ow crisis.

Working capital in business is made up of these core components:

Inventory management; •

Work-in-progress; •

Payment to suppliers (creditor •

payments); and

Collection of cash from customers •

(debtor collection).

Improving Cash Flow

Chapter 2-5 p22-65 Eng.indd 47

48 Between each stage of the working capital cycle, there is a time delay. For some businesses, there could be a substantial length of time to make and sell the product. In these enterprises, a large amount of working capital will be required to survive. Others may receive their cash very quickly after paying out for inventory, perhaps even before paying their bills. Service businesses may not be required to pay out cash for inventory and therefore, will need less working capital.

The key to successful cash management is monitoring carefully all the steps in the working capital cycle. The faster the cycle turns, the faster you have converted your trading operations back into available cash, which means you would have increased the liquidity in your business and will be less dependent on cash or extended terms from external stakeholders such as banks, customers and suppliers.

There are many ways you can make the working capital cycle move faster. The following sections provide information on how you can make the cycle move more quickly and improve the cash fl ow in your business.

Chapter 2-5 p22-65 Eng.indd 48

49 Inventory management is about having the right level of inventory to satisfy the needs of your customers and managing the inventory to identify excess or old inventory. Of course, inventory has to be purchased, either from existing cash in the business or from borrowings, so it is important that the inventory levels are managed so that they use minimum fi nancial resources as possible. This does not necessarily mean keeping low levels of inventory, but rather ensuring that inventory is held for the shortest possible time, which means that it will be converted into cash quickly (too little inventory can affect sales, so the key is to fi nd the appropriate level, which can change over time).

However, maintaining inventory comes with a cost. It is estimated that holding inventory can cost anything between 10 to 30 percent of the value of the inventory. This includes storage, insurance, keeping accurate tracking records and proper controls to avoid theft. Effi cient inventory control involves three elements:

Inventory review; •

Buying policy; and • Operational issues. • HINT Setting up good inventory control procedures will ensure that cash

is not tied up in holding unnecessary

inventory

Managing Inventory

The following checklist will help you to determine what measures for inventory control you may need or can use to improve your existing procedures.

Checklist for Managing Inventory 1. Inventory Review Action Review sales of inventory List all inventory Description

Determine the current level, what items are held and the value of inventory on hand.

Look at the sales records to fi nd out which are the best selling items and which are slow moving. Do not forget to look at seasonal trends. A focus on the best selling items should increase cash fl ow, if you manage your debtors well. Work out which items of inventory sold make the highest gross margin. This is important, as you may then be able to increase profi t by focusing more energy on these sales.

Chapter 2-5 p22-65 Eng.indd 49

50

Checklist for Managing Inventory

2. Buying Policy Action Tighten the buying of inventory Negotiate with suppliers Beware of discounts offered Understand what is “core” inventory Description

Identify inventory that you simply must never run out of in order to maintain sales momentum and ensure that customers would not be disappointed over the basic products.

Know the volume sales per inventory item. This will help you to buy the right amount. Carrying too little inventory may discourage customers, as you may not be able to satisfy their needs immediately, and carrying too much inventory means you are tying up cash that could be put to better use.

Negotiate deals with suppliers, but avoid volume-based discounts. When money is tight, there is no point investing in next month’s inventory without good reason. Instead of volume dicounts, try to negotiate discounts for prompt settlement (unless your cash position is poor) or negotiate for smaller and more frequent deliveries from your suppliers to improve your cash fl ow.

Do not let discount prices determine your inventory-buying decisions. Buy inventory that you can sell at a profi t in a reasonable time frame.

List slow-moving, old and excess inventory Update inventory records

Make a list of slow-moving, old and excess inventory items and develop an action plan to move this inventory immediately, even if it is at lower price than the cost of the item. This will generate cash to invest in new inventory that will move more quickly and make available display space for faster moving inventory.

Update your inventory records with the current levels and then implement a policy to track all movements of inventory. This will help to ensure that inventory is re-ordered only when needed, and will highlight any theft or fraud that may occur.

Chapter 2-5 p22-65 Eng.indd 50

51

Checklist for Managing Inventory 3. Operational Issues Action Supplier service Advertising and promotion Sales policy Customer delivery Description

Suppliers can assist in inventory management by providing access to inventory only when you need it (called JIT or just- in-time) and by providing good delivery service. By ordering less inventory more frequently and arranging better delivery schedules, you can reduce inventory quantities, saving valuable cash resources and improving liquidity without reducing sales.

Before launching a promotion, ensure that you have adequate inventory or can source for adequate inventory. If you have taken on larger than normal quantities, make sure you have a back-up plan if they do not sell during the promotion.

This can have a strong infl uence on inventory levels and should be managed with a view not only to maximising sales, but also to minimising investment in working capital. This can be achieved by directing policy towards a higher turnover of goods, selling goods bought at bargain prices faster, and clearing slow-moving items.

Ensuring that goods are delivered to the customer faster means the inventory is moved and the cash for the sale will come in more quickly.

Chapter 2-5 p22-65 Eng.indd 51