Does your company have a strong balance sheet?
One of the focus points I have with each of my clients is their balance sheet. Some clients come to me already having a strong balance sheet while others arrive with a balance sheet that needs substantial improvement. And while financial professionals might vary on the specific numeric value of various ratios that indicate strength, I think all would agree that negative equity and negative working capital (current assets minus current liabilities) are bad places to be.
If a company has a weak balance sheet, credit lines are constantly in use and often stretched. In situations like this, you’ll often find the accounting team “robbing Peter to pay Paul” (i.e., delaying a payment to one vendor to pay another. They’ll also worry about whether a major client pays an invoice before the next payroll run. And these are just a few of the day to day issues that bog down the accounting team and at times delay production as payment delays slow the smooth flow of raw materials.
A company should have sufficient equity and working capital so that they are never worried about the exact time a major client pays and should be able to pay their vendors within agreed upon terms. In other words, company should be able to tolerate some stretching of accounts receivable without it “breaking the bank”. Compared to a company that has a strong balance sheet, financing is more difficult to obtain, takes longer and is more expensive. I don’t like living in this world and won’t do it for very long.
What does it take to build a strong balance sheet? For most companies, it’s a history of profitability that leads to retained earnings which means that owner(s) consistently leave money for growth in the business. At times, particularly for start-ups or companies that are embarking on major expansion initiatives, it requires strong fundraising.
As opposed to the above mentioned negatives, a company with a strong balance sheet not only avoids these but is able to take advantage of opportunities such as acquisitions, buying extra inventory or materials on a price dip, or paying a few dollars more to hire superior staff to name just a few examples.
Since many of my clients are closely held, I also like knowing that the owner(s) have personal liquidity that they can inject into the business if something unexpected happens (2020 was certainly a good example of that). And for that matter, much of the same logic applies to your personal balance sheet!
Does your company have a strong balance sheet to see you through tough times and take advantage of opportunities? If not, what’s your plan to get there?
If your business could benefit from fractional CFO services, I would welcome the chance to speak with you. Please give me a call at (314) 863-6637 or send an email to [email protected]
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