Don’t Let Cash Burns Catch You – Sourcing Journal | Vette Leader

A financial report tells companies where they’ve been, but it’s the cash burn rate that signals where they’re going.

For Drew McManigle, too many companies fail to keep an eye on this all-important beacon of corporate wellbeing.

“Finance doesn’t run the business,” said McManigle, founder and CEO of restructuring firm Macco Restructuring Group. However, businesses “need a true 13-week, 26-week, and 52-week cash flow statement that tells you how much cash you will have and if — and when — you will [will] going out,” he added.

While a cash flow statement is a simple spreadsheet showing the sources of cash coming in at a given point in time, determining the cash burn rate requires companies to dig deeper. The calculation is simple: subtract the outflow costs from the inflow income. Ideally, a company should have something left over every week. The cash burn rate is the “extra amount of cash you burn” the earnings minus all costs. But even that isn’t enough to tell if a company is bringing in enough money to run its business on a daily basis.

According to McManigle, companies go through different cycles. In retail, for example, restocking on vacation supplies would cause a temporarily high cash burn. That’s why he suggests the 13-, 26- and 52-week reports so executives can have early warning that things are getting off the rails.

“You can use it to analyze and look at [the business] It’s like, ‘When am I going to get in any trouble?’” he said, adding that companies often generate high sales without realizing that they have a negative burn rate and are actually cash poor. And when they realize it, the liquidity problem often snows so far that bankruptcy seems more likely than unlikely.

Businesses facing a negative cash burn rate should act quickly to reduce costs. While this can mean laying off employees, it can also mean extending payment terms by 30 days and negotiating supplier agreements.

What else does McManigle recommend?

“The first thing you should do is look at how much trouble you’re in, what your cash consumption is, why you got there, and what steps you can take to fix it,” McManigle said.

He also said management needs to take a look at where the company stands compared to its competitors. That, coupled with the company’s cash burn rate and viability of the company’s strategic plan, could give management a “pretty good picture of what’s going on and what needs to be addressed first.”

McManigle said that ignorance about spending money is so widespread that “almost always we get called late because the company or people think they have it covered, and then they get into bigger trouble.”

That means many companies have few options besides Chapter 11. When this happens, companies should evaluate and prioritize “critical vendors” and determine how bankruptcy might affect supply chain partners, even as they secure debtor owned financing (DIP) to keep the doors open during a court hearing supervised reorg.

“If you owe a Chinese supplier $5 million and they ship 20 or 25 percent of your goods, they might not want to do business with you anymore,” McManigle said. “It’s a big problem, so you have to think through the alternatives.”

Because Chapter 11 has become so expensive, companies should consider non-bankruptcy alternatives such as

Stable credit markets mean that DIP financing is available for companies that need it, even as it becomes more expensive. For smaller businesses that rely on personal owners to provide a guarantee, “Lenders are looking more closely at individual loans, so that becomes a little more difficult,” McManigle pointed out.

He expects bankruptcy filings to surge, most of which are likely to seek to restructure finances rather than address operational failures. Some companies choose a ready-made plan for their court-approved bankruptcy exit. They tend to be at greater risk of becoming the dreaded so-called Chapter 22s, who will end up back in bankruptcy court for a second Chapter 11.

McManigle advises companies undergoing balance sheet restructuring to also take a close look at operations and the existing business model. It’s a way to avoid repeating what got companies into financial trouble in the first place.

“You can play with the balance sheet and you can lower and stretch the debt, but if your basic business model isn’t addressed – if someone doesn’t want to buy your khakis anymore – I can model the balance sheet all day, but it won’t make a difference. At some point along the way to restructuring, someone has to look at the business model and say: what are we selling? Who do we sell to? What works? What’s not?” he said.

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