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SAN FRANCISCO, CA Oct 31, 2015/ Troy Media/ – The financial crisis of 2007/2010 caused many companies to go out of business. Surviving companies, however, developed a deeper appreciation for the power of sufficient cash-flow.
What lessons can we learn from the financial crisis that we can apply to our businesses today?
While there are many potential lessons, the first is that companies doing well in a robust economy don’t pay attention to liquidity and cash-flow; it’s only when sales fall and credit lines freeze that they become acutely aware of the necessity of cash-flow.
During the financial crisis, the public became aware of two types of companies:
The first type, the losers, frequently mentioned in the press, were those which lacked the liquidity to keep their operations running. They included Lehman, Merrill Lynch & Co., Wachovia Corp., American International Group Inc., and Washington Mutual Inc. All suffered from insufficient cash flow because borrowers could not afford to pay back their home loans.
The second type, the winners, seldom mentioned except in business circles, were companies which rode out the financial storms because they had more than enough cash flow. In fact, they had so much that they were able to hoard it in record amounts. These winners were banks, which earned $42.2 billion by 2013, the biggest profit any industry had made in history.
When looking at the financial crisis, it’s possible to get sidetracked by many polemic issues. For instance, should the Bush administration have diverted the $700 billion in funds from the Troubled Asset Relief Program (TARP), which bought bad loans from the banks in order to boost their capital?
But rather than attempting to figure out whether TARP was the right or wrong thing to do, let’s focus on the lessons learned about money management, which is simply that the power of liquidity and cash-flow determines success or failure.
Liquidity is a measure of how much cash a company has to pay operating expenses, or whether it has the assets to sell to pay unexpected expenses.
Cash flow is the inflow and outflow of cash through an organization. Positive cash flow leads to a higher closing balance over the opening balance. Negative cash flow is the opposite. Cash flow should not be confused with profits, which is the amount of money left over after all expenses have been paid.
While the losers did not have sufficient liquidity and cash flow, the winners had plenty. After some cash infusion from the government, the winners were able to:
- sell more goods and services
- sell any assets necessary to get cash
- reduce their costs
- increase their selling price
- collect money faster
- pay slower
- bring in more equity.
While it’s clear we need to consistently improve liquidity and cash flow in our business, we won’t know how we’re doing unless we find a way to keep track both our liquidity and cash flow.
We need to have good software tools and accurate data on your incoming and outgoing cash flow. We need a detailed analysis of where the money is coming from and where it is going. Without this flow of information, we can’t avert a crisis or seize growth opportunities. We can’t make actionable decisions. We need a proactive treasury management system to anticipate future trends, plan our best moves, and initiate change rather than simply reacting to unfolding events.
What we can learn from the financial crisis is how essential it is to optimize our cash sources and protect the cash coming in. Cash flow is the lifeblood of an organization. It allows us to maintain operations, deliver value, and strategically execute plans.
For example, on a long road trip, the driver glances at gauges to get a reading on gas levels, fluids, and temperatures. Along the journey, the driver monitors speed and distance. These gauges allow the driver to reach the destination, even if travelling thousands of miles. Similarly, to successfully run a company we need financial gauges to see how well it is doing. If you either don’t use financial gauges or don’t pay attention to the gauges they have installed on their computer systems, you may run into cash flow problems.
Financial software is like a dashboard gauge. It enables us to track our transactions and is the early warning system telling us when expenses are rising faster than income. Financial gauges track revenue, spending, saving, and investments and monitor budgets, banking accounts, saving accounts, and investment portfolios. They allow us to keep debt levels down, estimate growth, and even plan an exit strategy.
The more we look at the numbers on our financial gauges, the more our businesses will prosper. Companies that monitor their money end up becoming wealthier than those that lose track. They can even get loans to grow faster because they show good numbers.