Wednesday, May 16, 2012

Money ABC's

A few weeks ago, a colleague commented that she was surprised how many business managers didn't know the basics of business finance. She had run a business simulation and the participants were coming away amazed at how much they were learning.

This illiteracy around finance and business rules shows up when sales people offer extended terms at the same price. Or when procurement managers don't ask for longer terms when a price increase is given by the supplier. Investments in inventory are seen as a good thing by most, especially when it's purchased with a volume discount. No one imagines that it might mean going to the bank, or that your cash is tied up and can't be used for other things--like payroll.

I've had customers who want me to hold the inventory and ship to them only what they need and when they need it. I tell them that it will mean prices go up to cover our carrying cost. If they ask, I show them an estimate which can range from 20-55% of the cost depending on facets like obsolescence (e.g. through design changes) or repackaging costs. The price increase is usually in the 2-5% range depending on the amount of inventory held relative to the overall volume.  I then offer that if they think their carrying cost is less than mine, they are welcome to the lower price as long as they take all of the inventory. Often they're larger companies so they know their carrying cost is more than mine; they opt for me to carry it even if it means a price increase to them. It's worth it to them because it solves a problem they have--the amount of inventory on their books and the amount of space consumed by the inventory.

Remember cash flow is king. Just because the sale is on the books, if it hasn't been paid for, it doesn't really count. A lot of things can happen to the customer between the sale and the payment--discounts taken, their cash flow is low and payments are delayed, etc.

When your customers and suppliers are asking for changes, really explore if it's cost-neutral to you. If you're not sure, get refreshed on the money ABC's of your business.

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