While this condition certainly exists in many businesses, it is far from ideal. When all segments in your business are not functioning, well, it leaves your business vulnerable. When sales fall or production quality drops, can your business survive if it does not have a solid structure with sound best practices?

How Important Are Financial Policies and Procedures In Your Business?

Public companies pay a lot of attention to financial results because they are required to — by the SEC, shareholders, their Board of Directors, and hopefully by management too. Yet, many small and medium sized businesses often times fail to pay attention to their overall financial processes and structures. Maybe it’s because the same oversight and shareholder pressure just isn’t there.

If you run a business, you know that cash flow is the lifeblood of your business. So you would think that having a balanced approach to financial policies and procedures would be more common than it is. Yet, operational concerns get more attention when it comes to writing policy and procedure manuals. The goal should be to strike some kind of balance between paying attention to financial matters and the other aspects of your business such as operations.

In their important work The Balanced Scorecard, Kaplan and Norton discuss four business segments that require focus in some balanced way. (Note: The idea of balance should not be taken too literally – it is not about having perfect balance in all areas of business. Some areas may take priority. The point is that to be successful a business needs to pay attention to, and work to improve in, all key business areas.)

The four segments presented for a balanced scorecard include:

• The Customer
• Learning & Growth
• Internal Processes
• Financial Measures

This should be viewed as a minimal list; your organization might identify other areas that require attention in a balanced way. Success in financial areas alone cannot translate into overall success if the business does not have good products that are delivered in a timely way that satisfies customers. While financial operations are important, they should not be the exclusive focus of management, no matter how large or small the business.

Financial Policies and Procedures Balance

That Finance is listed as one of the pillars needed for business success in the Balanced Scorecard does indicate its importance in the overarching view of what in required for businesses to be successful. Surprisingly, however, studies show a large number of medium and small businesses do not proactively manage financial processes such as developing financial strategy or conducting financial analysis. If you are one of these business owners, you need to take a look at building a financial policies and procedures manual. Producing your own finance manual will help you incorporate best practices and a systematic approach to finance, cash flow, and even raising capital when you need it.

That is why Bizmanualz has written a financial policies and procedures manual to assist you with balancing the key aspects of your financial operations including: regulatory compliance, improving performance (through well-defined processes) and implementing best practices into operational areas like Raising Capital and Treasury Management. The finance manual describes, in procedure form, best practice activities needed to manage financial processes to achieve regulatory compliance and improve financial performance.

Each financial procedure is guided by a stated finance policy, and an accompanying purpose of the procedure. Each procedure also comes with financial forms that are typically used to collect information and data as part of executing the procedure. The policies, procedures, and associated forms can be easily edited in Microsoft Word allowing you to customize all procedures and forms to meet your individual organization’s needs, or use them as finance templates to create additional company procedures important to your financial operations. Download Free Financial Policies and Procedures Samples to see for yourself how easy it can be to develop your own policy and procedure manual.

Transparency and Due Diligence

The root cause of this, one could argue, is the lack of transparency and due diligence. Financial institutions did not collect the proper information from people they were lending money to. Those buying packaged securities containing bad loans apparently didn’t really know what they were buying. Those engaged in credit default swaps didn’t really know the viability of the institutions they were insuring and didn’t have the capital to pay the defaults should an institution fail. Without the necessary transparency and due diligence then lies and deception go unchallenged, particularly when people are being dishonest with themselves.

But wait a minute! Wasn’t Sarbanes-Oxley (SOX) supposed to put an end to all that? Aren’t public companies, financial or otherwise, supposed to have an accounting internal control system in place as well as checks and balances to prevent unrealistic, overly optimistic projections and reporting? Obviously, though well-intentioned, SOX has not been as effective as it should be in preventing fraud, abuse, and intentional ignorance. It apparently also has not been successful at encouraging organizations to implement effective financial internal control systems and improve corporate governance.

Proper Internal Controls

Transparency and due diligence are two positive results of a proper internal control system, which is required by SOX. While most SOX requirements are simple and straightforward (i.e., an independent auditor), the internal system mentioned in sections 302 and 404 seems to be little understood, and the cause of most of the confusion surrounding SOX. Yet, it is this provision of Sarbanes-Oxley which could have done the most to prevent our current crises.

A proper internal control system would have required that information provided by loan applicants be verified as accurate, and established that applicants had the means to repay the loan. An internal control system would have ensured the due diligence and transparency by investment banks and institutions buying these mortgages bundled into investment securities, which obviously didn’t happen. It would have required that those selling default swaps understand what they were insuring and that they have the means to back them up.

Not only are meaningful financial control systems apparently being ignored or misunderstood by those running many publicly traded companies, they are apparently ignored or misunderstood by auditors as well. Many of these companies, especially banks, had to have undergone several audits since Sarbanes-Oxley took effect. Can regulations like SOX be effective if auditing systems to ensure compliance aren’t effective?

What Lessons Can We Learn?

How well are internal control systems functioning in your business? We frequently point out that having an internal control system, whether for finance and accounting or for production, is not just about doing the minimum in order to comply with regulations like Sarbanes-Oxley or standards like ISO 9001. The goal of an internal control system is to improve an organization’s overall effectiveness and efficiency in order to achieve objectives across the organization; in finance, sales, design, manufacturing, and elsewhere in the organization.

When the only goal of an internal control system is compliance, then you are doing the absolute minimum. As we can see in this current example, basic compliance at the lowest level does not really protect your investors, your employees, your customers, and other stakeholders. Those banks and financial institutions, however, using an internal control system to continually improve and strengthen the organization, are much more to likely to be left standing when the financial world stops spinning. That is lesson we should all take to heart, no matter what kind of business we are in.

Is Sarbanes-Oxley working? Obviously not very well for many publicly traded companies who just did the minimum in order to comply. For organizations that took the initiative to put effective, meaningful internal control systems in place and created a culture of transparency and due diligence – it is probably working much better.

Our products will give you a head start by providing procedures based on industry best practices, and they come in an easy to edit Microsoft Word format.  To learn more about Bizmanualz Accounting Procedures go to http://www.bizmanualz.com/accounting/ and check out the Accounting Policies and Procedures Manual or sign up for the Bizmanualz Newsletter and download a free sample accounting procedure right now.

This month’s highlight was the release of the Finance Policies, Procedures & Forms manual. Our newest product is the result of a nearly year-long effort of intensive research, writing, editing, and reviewing. The Finance Manual was finally ready for production and shipping last week. We are very pleased with this new product, and the response from our customers, to date, has been tremendous.

The Finance Policies, Procedures & Forms Manual is primarily designed to assist companies of all sizes and types establish strong internal controls to simplify compliance with Sarbanes-Oxley and other financial regulations. Another important benefit of well-designed internal controls is the opportunity to measure and improve process effectiveness.

Improving Financial Performance through Clear Objectives

Almost every business pays attention to financial performance. Studies show, however, that small and medium-sized businesses frequently do not engage in thorough financial planning. What really drives financial performance is setting SMART objectives based on clear goals and then creating detailed action plans so that the objectives can be achieved.

Read more about setting clear objectives.

Using COSO Principles to Improve Performance

You may be familiar with the Committee of Sponsoring Organizations of the Treadway Commission, or COSO, framework for internal control. We have discussed it in past article, and it received significant attention when referenced by the Securities and Exchange Commission (SEC) and the Public Company Accounting Oversight Board (PCAOB) as an example of an internal controls system meeting the requirements of the Sarbanes-Oxley Act (SOX), sections 302 and 404.

Read more about using COSO principles.

Read Chris Anderson’s article on Writing Policies and Procedures at work.com.

The New Finance Policies and Procedures Manual

If you are trying to build an internal control system to help you comply with Sarbanes-Oxley and other financial regulations, the new Finance Policies, Procedures and Forms manual can provide a big boost in your efforts. Why start from scratch when writing your financial policies and procedures to implement internal controls?

Read more about the new Finance Procedures Manual.

Besides helping comply with financial regulations, control systems can improve performance in all business segments. Through control activities, for example, policies and procedures can also incorporate the idea of setting process objectives along with regular measurement and review, as well as creating communication channels between key departments. In fact, all the procedures found in our policies and procedures manuals are based on the “Plan-Do-Check-Act” process model of continual improvement, including our newest release, the Finance Policies and Procedures Manual.

On That Note

Answer to this month’s question:

Sarbanes-Oxley (SOX) has generated a lot of discussion about internal controls: What are they? What do they do? Historically, for business finance and accounting processes, controls referred to preventing fraud and abuse. Increasing regulatory requirements have made compliance an important part of control system goals.

Policies and procedures are listed as key control activities in the COSO publication “Internal Control – Integrated Framework.” Both the SEC and PCAOB point to this COSO document as an example of internal controls that meets SOX requirements.

Please feel free to contact us with any questions or comments. Our policies, procedures and processes articles site has tons of useful information. Also, please let us know if you’d like any specific topic addressed in our future articles.

Regards,

Chris
Bizmanualz

Strengthen compliance, enhance performance, or speed the development of your financial procedures.

Are you still trying to build an internal control system to help you comply with Sarbanes-Oxley (SOX) and other financial regulations? The newest addition to the Bizmanualz Policies, Procedures & Forms product line – the Finance Policies, Procedures & Forms Manual – can provide a big boost in meeting regulatory requirements.

Policies and procedures are listed as key control activities in the COSO publication “Internal Control – Integrated Framework.” Both SEC and the PCAOB point to this COSO document as an example of internal controls that meets SOX requirements.

Easily Customizable Finance Procedures

Why start from scratch when writing your financial policies and procedures to implement internal controls? By researching best practices and key compliance activities, Bizmanualz has done most of the work for you. Besides providing the policies and procedures divided by tabs along functional areas in an easy to use 3-ring binder, all the materials are also provided on CD in Microsoft Word format so you can quickly and easily adapt and customize them to fit your organizational needs.

Although specifically designed to help small and medium sized businesses (which typically lack the resources to create the documentation frequently called for by internal control systems), the Bizmanualz Finance Policies, Procedures & Forms can help companies of all sizes with their compliance efforts, whether it is compliance with SOX, GAAP, or with SEC public company reporting. Plus, the Finance Manual covers important functional areas like Raising Capital, Treasury Management, Financial Reporting and Analysis, Auditing and Controls, and Financial Administration.

Prewritten Financial Procedure Templates for Compliance and Improvement

Since SOX became law, finance and accounting departments in business of all kinds and sizes have been scrambling to develop the required internal controls. Bizmanualz developed the Finance Procedures Manual as not just a not just a ‘how to’ book, but financial processes in the form of customizable procedure templates so your documentation can be dynamic and changeable.

With SOX and other regulatory requirements, the main goal of internal control is compliance. However, companies taking the time and effort to create a control system with compliance as the only goal is doing the bare minimum and, as a result, they are missing an important opportunity. Control systems are an excellent way to manage by objectives and drive performance upward. A well-defined process not only documents activities, but can be continually improved through incorporating objective setting, reviewing results, and corrective actions right into the process.

Speed Your Finance Policies and Procedure Development

Whether your goal is compliance, enhancing performance, a boost in developing documented procedures, or all three, the Bizmanualz Finance Policies and Procedures Manual can help. You can order the new Finance Procedures Manual online at our website at: www.bizmanualz.com or by calling 800-466-9953 (international customers call 1-314-863-5079). Or, to view a complete table of contents and a sample finance procedure, visit the sample page.

In the past four weeks, we’ve brought to light four key areas in which you can save $250,000 each — for a total of $1,000,000. Point by point, we’ve shown you just how cash flows through these areas, making up the Cash to Cash Cycle.

And as we’ve seen, the cash cycle is undoubtedly the single most important process to optimize for any business – from when you spend money to when you get money.

So now let’s put it all together.

Cash to Cash Cycle Definition

By definition, the cash to cash cycle is a financial ratio that shows the length time for which a company must finance its own inventory. It measures the number of days between the initial cash outflow (when the company pays its suppliers) to the subsequent cash inflow (Accounts Receivable).

Cash Conversion Cycle and Cash Flows

One way to express this is the length of time between the purchase of Inventory (raw materials, etc) and the collection of accounts Receivable created from the sale of your product — also called the cash conversion cycle.

Why is this most important? Because this is your cash flow and because;

Operations Assessment and Working Capital

Businesses live and die by the cash generated from operations. If your operations don’t create cash, then they consume it. A cash-consuming operation means that you have negative cash flow and you are living on financing (debt or equity). But the Cash to Cash Cycle also shows you the amount of working capital you have committed to your organization.

Just add the number of days of inventory to the number of days of receivables outstanding, and then subtract the number of days of payables outstanding. The result is the number of days of working capital your organization has tied up in managing your supply chain. This can be quite a significant number – one not to overlook.

This can also be expressed by the formula: stock days plus debtor days minus creditor days equals the cash-to-cash cycle.

So, for example, a company that keeps its stock for on average 30 days, gets paid by its debtors on average within 30 days and pays its creditors on average within 30 days will have a cash-to-cash cycle of 30 days.

Companies that receive cash from their customers at the point of sale and that have their inventory under good control will have a short cash-to-cash cycle. A company could even have either a negative cycle or a cycle time of zero. For example, if a business’ receivables and payables are held in check at 30 days while inventory runs at Just-In-Time (JIT) levels, then the cash cycle is zero – meaning that this company is in good shape with no working capital needs. And, of course, when receivable days are less than payables with JIT inventory, then the company will enjoy a positive cash-to-cash cycle – creating more cash on hand.

On the other hand, however, if a company puts payables down to 15 days and allows receivables to grow to 45 days, while inventory remains at steady levels, the cash cycle will be high. And. here, working capital will be constrained to compensate for inefficiencies.

Processes and Procedures Investments

Did you realize that working capital is the investment you are making in the inefficiencies of your processes and procedures plus your investment in your suppliers’ and your customers’ inefficiencies too? In other words, if you do not monitor inventory, accounts receivable, sales and marketing and accounts payable to ensure a healthy cash-to-cash cycle, then your working capital needs will not maintain a strong cash flow. The process will be out of control, and will not be optimized to create the greatest amount of financial effectiveness for the company.

Policies and Procedures Savings

So now you can see the relationship between your cash flow, your working capital and your cash to cash cycle. In order to increase your cash flow, you need to increase the velocity of your cash to cash cycle by reducing the inefficiencies found in your processes, your suppliers’ processes and your customers’ processes. The result is a decrease in your working capital and an increase in your cash. And, as we’ve seen, this can be a significant number – again, one that you shouldn’t overlook.

Part One: Inventory
Part Two: Accounts Receivable
Part Three: Sales and Marketing
Part Four: Accounts Payable

the final process in the Cash-to-Cash Cycle — the source of the final $250K.

The cash cycle – from when you spend money to when you get money – is undoubtedly the single most important process any business can optimize.

Completing the Cash-to-Cash Cycle

So, let’s tie this to accounts payable – the event that pays for the liability incurred by purchasing, which is for inventory required by manufacturing to meet demand. Sales generates the demand that created the accounts receivables, which is turned into cash, and we have come full circle and completed the discussion on the cash to cash cycle.

Increasing the Velocity of Accounts Payable Processes

Purchasing Procedure Templates

Your accounts payable procedure is a bit different then the other processes we have examined so far. The first three processes we looked at represented processes where the focus was on reducing the size of assets (inventory or accounts receivable procedure) or expenses (marketing) and increasing the velocity or cycle time.  In accounts payable our focus is on increasing the size of assets while maintaining a solid credit rating and increasing the process velocity.

Now, let’s look at how to find $250,000 in accounts payable savings. If your organization has $500,000 in accounts payable each month…STOP! We can find $250,000 in savings right here!  ”Where?”, you ask. Increasing payables by 25% will produce $125,000 in cash plus $125,000 from automating tasks, taking more discounts, and managing the process better.

Service Business Procedures Case Study

An organization with $600,000 in monthly payables needed assistance. We examined their payables process to understand and quantify workflow, paper processing, and credit issues, then designed and implemented a process to increase their use of payables and discounts, improve their payables cycle efficiency, and tie it to their purchasing and receivable cycles. We then reinvested $50,000 back into an Enterprise Resource Planning (ERP) program to automate some of the processes that weren’t automated already.

The purchasing metrics we developed reduced their purchasing and payables expenses by 25% and increased their efficiency from 50% to 75% within 2 months of implementing the new procedures. With these new processes and reports, the company now tracks payables cycle efficiency and average days payables, rather than just bills paid on time or outstanding balance as the measure of their payables effectiveness. The result: an extra $300,000 in cash, plus a 50% increase in process capability (capacity).

But…how?!

9 Methods to Help Your Accounts Payable Accounting Procedure

• Eliminate Paper. The single biggest cost for any purchasing and payables department is paper, including: purchase orders, purchase order follow-up, small-dollar purchases, delivery tracking & receipts, and vendor payments. Utilizing paperless invoices, Web-based supplier self-servicing, centralized vendor files, automated workflows for electronic or imaged invoices (see ERP below), and payment methods, such as business credit cards, Electronic Data Interchange (EDI) and Electronic Funds Transfer (EFT), can reduce paper handling costs by as much as 90%.

• Integrate ERP Systems. Enterprise Resource Planning (ERP) automates the purchasing and payables functions, which allows a company to get more work done with fewer personnel. Also, electronic invoice matching applications save time in retrieving paperwork. It is estimated that an ERP system can annually save an organization $300 per million in sales.

• Increase Payment Terms. Negotiate payment terms based on receipt of goods or the invoice. This can add one week or more to your terms, which can be 25% of 30 day terms. Use EFT for just-in-time payments to maximize your payables terms and minimizing the impact to your credit.

• Take Payment Discounts. If you are getting 2%/10 net 30 terms, then consider taking it. This means you are offered a 2% discount if you pay within 10 days, instead of the normal 30 day terms. This translates into an 18% return on your capital, and for many organizations this is a good return on your investment.

• Review Purchases. Purchasing is a continuous process that requires continuous review. Consider: transportation charges, expedited fees, odd lot penalties, new pricing, new products, consolidating vendors, new vendors or buying groups, payment terms, and more. Communicate with your suppliers to improve the process. And review and monitor everything to account for changes in your environment.

• Communicate with Suppliers. Communicate with your suppliers to improve the process. Ask suppliers to submit their invoices electronically. This will save you time, resources and losses due to waste.

• Eliminate Disputes. Disputes with your suppliers are typically the result of a problem with your purchasing/receiving process. When disputes occur, review your purchasing procedures to ensure that they are producing the correct metrics and that you are not forced to pay for your mistakes.

• Reduce Errors. Overpayments, payments made to the wrong vendors, fake invoices, or even late payments represent a common problem for payables. Increasing your focus on error control, along with written procedures and audits, can reduce these errors considerably.

• Train Personnel. Provide your accounts payable staff with regular formal training. This will arm them with better knowledge of frauds, negotiating skills, and an understanding of the economics of payables, which will result in improved effectiveness.

Accounting Policies and Procedures for Cash in the Bank

In the preceding articles in this series, we showed you three parts of your financial statements that will each contribute $250,000 in cash savings. The last hurdle was Accounts Payable, and we sailed through it. And now we have crossed the finish line and achieved our goal: $1,000,000!

Time was – is – the key.  All you have to do is own it.

In part five, we’ll put together the four parts of the cash-to-cash cycle and look at how they affect the working capital of your business.

Part One: Inventory
Part Two: Accounts Receivable
Part Three: Sales and Marketing
Part Four: Strategies for Writing Accounts Payable Procedures
Part Five: The Complete Cash-to-Cash Cycle

Laying the Foundation

Last article, we raised the question, “What could your business do with an extra $1,000,000?”  To lay the foundation, we introduced inventory as the first of four areas that will lead toward our million-dollar goal.  And you saw exactly how to achieve the first $250,000 in cash savings by avoiding delays with an increase in velocity, as well as an increase in discipline and competency. But how exactly? With time, as you saw with inventory and as you’ll see this week.

Tackling Accounting Procedures

Accounts Receivable Templates

Let’s continue that crucial theme of time with another major source on your balance sheet; specifically, accounts receivable, or “A/R”. If you have $500,000 or more in accounts receivable…STOP right there!  We have found it again.

Reducing Average Days Collection

Why? Because if we focus on reducing your average days collection by 50%, your accounts receivable balance will fall to $250,000.  The result?  An extra $250,000 in your bank account!  Just like that, we’re halfway to our $1,000,000 goal!

Let’s see how this would work in a real-life business scenario.

Accounting Procedures Service Business Example

A service organization with $700,000 in average A/R balances needed assistance, so we examined their A/R function to understand and quantify the workflow and workload issues.  Next, we designed and implemented a process to improve A/R performance.

The metrics we developed reduced their “over 60″ accounts receivables by 85% and their overall A/R balance by 50% within 90 days of implementing the new procedures. With these new processes and reports, the company now tracks Average Days Collection and past due rather than just Days Sales Outstanding (DSO) as the measure of their collection effectiveness.

The result: an extra $350,000 in cash!  Again, it’s obvious what a crucial role time plays and how an increase in velocity and discipline directly lead to increases in efficiency and cash savings.  So, how can you use time to your advantage?

Methods to Design the New Accounting Process

1. Decrease collection cycle. Examine customer accounts that go beyond your terms. Do not wait until twice the net terms to take action.
2. Tighten credit policy. Examine credit process for slippage. Do you have a credit approval process? Do you perform credit checks? What standards are used to extend credit?
3. Reduce credit terms. Change the credit terms you offer your customers. If you offer terms of net 45, reduce it to net 30. You might offer a discount of 1% if paid within 10 days else net due in 30 days. This is equivalent to 18 % annual interest and most businesses will take those terms.
4. Shorten the invoice process. Bill your customers immediately. This is a big one. Many service organizations wait until the end of the month to tally billable hours and determine customer charges. Do not wait until the end of the month. This could reduce your day’s receivable by as much as 15 days right there. Email or fax your invoices to save another day or two (e.g. QuickBooks accounting software contains this feature).
5. Reduce billing errors. Most customers delay payments because of invoice errors. Customers won’t recognize the invoice until it is corrected and may not even notify you, the vendor, of the error until you call for collection. Again, avoiding this delay in error and time will amount to cash savings.
6. Train Accounts Receivables personnel. Make sure that all personnel involved are training to understand the performance metrics for their jobs. For example, a company will manage $500,000 in monthly A/R balances (that’s $6,000,000 per year!) using an A/R clerk who makes $30,000. But then the supervisor uses nothing more than On-The-Job (OJT) training for the clerk. Then the CFO thinks that he or she (the CFO) is really managing the money. But, in reality, that’s not the case; the clerk is managing the money day-to-day. So shouldn’t the A/R clerk receive enough training to manage such a significant amount? After all, it only takes a 6% change in A/R in one month to equal the A/R clerk’s entire annual salary. Isn’t the A/R savings worth a little extra time in training?
7. Maximize the Accounting Process. With the Accounts Receivable department you should use each element of the process to gain the most benefit for your business. And with time-saving procedures set in place, you will let your efficiency work for you.

Grabbing Your Policy Goal

With well-defined processes and procedures in place, you will increase your efficiency by reducing your Average Days Collection. And of course a reduction in Average Days Collection means your A/R balance will also fall, creating more cash on hand.  And already we’re halfway to our $1,000,000 goal!

In our next installment, we’ll look at finding yet another $250,000 in the Sales function.  That will get us three-fourths of the way to our goal of $1 million in cash savings.  Not only do you reap rewards in extra savings to your bottom line, but you also see more cash in the bank.

Part One: Inventory
This Week: Strategies for Writing Accounts Receivable Procedures
Part Three: Sales
Part Four: Accounts Payable
Part Five: The Complete Cash-to-Cash Cycle

With $1 Million would you:

• Pay off debt?
• Purchase new equipment?
• Invest/save for the future?
• Give yourself a bonus?
• Buy a new car, boat or plane?

$1 Million Waiting in Your Wings

What do you and your business need that you have been putting off because you don’t have the money today? $1,000,000 certainly would fill those needs. But where do you find $1 Million just lying around your business right now? Well, you probably have $250,000 in each of four areas in your everyday business, and you don’t even realize it.

Money in Your Business Procedures

So let’s look at four places in your business where we will find $250,000 each and see how we can help you find it:

• Part 1: Inventory – $250,000.00
• Part 2: Accounts Receivable – $250,000.00
• Part 3: Sales – $250,000.00
• Part 4: Accounts Payable – $250,000.00
• Part 5: How-to Procedures – $1,000,000.00

Turn Time into Cash with a New Company Policy

But just what exactly is this source for cash? It’s time. If you are looking for $250,000 then it costs you $4,808 every week that you delay. So what you do with your time quite literally amounts to either costs of delaying, or it can amount to savings when you take action and control of your time. To correct this cost of delay, an increase in velocity must follow – which will set the difference between ‘good’ and ‘great’. The consequences of this shift in system velocity increases discipline and competency: the ability to maintain the increased velocity and the ability to make the adjustments to achieve the ‘great’. So how do you realize the difference?

Eliminate Inventory and Increase Cash

Let’s start with the biggest, most obvious source – your balance sheet, specifically inventory. If you are a manufacturer with $300,000 or more of inventory (raw materials, work in process or finished goods) then STOP! We found it. Why? Because inventory is an unproductive asset. Inventory is money, and having it lying around your factory is not where your money belongs. So if we reduce inventory to Just-In-Time (JIT) levels, then we can eliminate 85% or more of your inventory, which translates into $250,000 in cash. But that’s not all. You will also save another $50,000 or more in annual inventory carrying costs. With less inventory, there are lower costs of holding inventory. Let’s look at an example of what we’re talking about.

Manufacturing Business Procedures Case Study

A manufacturing organization with $2 Million in average inventory balances needed assistance. We examined their inventory consisting of raw materials, work in process and finished goods to understand and quantify the workflow, workload, and demand forecasting issues. Then we designed and implemented a process to improve their inventory cycle and tie it closer to their actual sales.

The metrics we developed reduced their inventories by 85% and increased their manufacturing cycle efficiency from 60% to 90% within 120 days of implementing the new procedures. With these new processes and reports, the company now tracks manufacturing cycle efficiency and delivery time variance rather than just units produced, as the measure of their manufacturing effectiveness. The result: extra capital plus a 50% increase in process capability (capacity).

Methods to Design the New Process

By becoming more efficient in the process, we can use time not as a detriment but as a significant benefit to our business. Step by step, let’s take a further look at how time and efficiency plays a great role in your business.

Increase Demand Forecasting Accuracy. We only need enough inventory to satisfy demand, and that is where part of the problem exists. If demand can not be accurately forecasted, then we end up compensating for this unknown with inventory.

Increase Manufacturing Cycle Efficiency. How well manufacturing resources are used to produce a product determines the cycle efficiency. Defective product, product rework, and long lags between manufacturing cells cause inefficiency, which can be easily calculated. Raw materials should be converted into finished goods as quickly as possible. The speed at which this occurs defines your manufacturing cycle efficiency.

Increase Supply Chain Turns. Increasing the number of times purchases are made may increase acquisition costs and unit costs because of smaller order quantities. But you will benefit by increasing your cash flow and eliminating the carrying cost of the inventory (warehousing, material handling, taxes, insurance, depreciation, interest and obsolescence totaling 25% to 35%).

Eliminate safety stock. Safety stock is really just a buffer for forecasting variance and supplier delivery time. While many levels are set arbitrarily in automated MRP systems, your safety stock levels will need to be reduced due to improvements in demand forecasting accuracy, manufacturing cycle efficiency and supply chain turns.

Reduce purchasing errors. This can reduce overstocking and, more importantly, minimize stock outs that result in expensive expedited purchases. Sell excess and obsolete inventory or return it to your vendor.

Eliminate delivery variance. Do not allow vendors to deliver early or late and make sure the delivered quantity does not vary from the order quantity. After all, delivery errors cause the need to carry more inventory. Instead, provide suppliers with forecasts of future needs.

Train purchasing personnel. Provide your purchasing and material management personnel with formal training. This will arm them with better negotiating skills that will result in better prices and terms.

Procedures Provide Time Savings

So, as we have seen, we should use each element of the process to extract the most benefit from our business. With time-saving procedures set in place, you will let your efficiency work for you.

Time Savings Provide Cash in the Bank

With well-defined processes and procedures in place, you will increase efficiency by increasing inventory turns. And of course an increase in inventory turns means an increase in cash on hand. It’s there – all you have to do is grab it.

Next part of this series, we will look at finding $250,000 in Accounts Receivable – another step as we work toward our goal of $1 million in cash savings. So not only aim to reap the rewards of extra savings to your bottom line, but also see more cash in the bank – $1,000,000 to be exact..