Why profit and turnover can be misleading for SMEs

Money. (Duncan Alfreds, News24)
Money. (Duncan Alfreds, News24)

Cape Town - It’s not easy for business owners to predict future financial challenges and irregularities that may negatively impact operating costs, according to Simon Leps, CEO of XPRS Capital Africa.

He explains that even profitable companies are at risk of going bust if they fail to plan ahead for unforeseen cash flow problems.

“It is a common mistake, particularly in the first few years of an expanding SME’s existence, to believe that the business is doing well solely because it is growing its turnover and profits. However, if new clients fail to pay in the stipulated timeframe, or if all capital is tied up in assets, the business owner may be unable to pay the bills despite the company being profitable," says Leps.

"Similarly, if a new business’s operating costs are substantially more than originally expected, turnover may be growing but profits and cash flow could be diminishing."

Leps explains that, while both turnover and profit are good indicators, they are just two of the many crucial factors that all business owners need to monitor carefully.

He urges SME owners to not be distracted by these two metrics at times of increased business confidence.

“The Rand Merchant Bank (RMB)1 Business Confidence Index shows that business confidence in South Africa rose by 11 percentage points in the first quarter of this year following President Cyril Ramaphosa’s election as leader of the ANC in December of 2017. Although the mood is far more optimistic, and businesses might be willing to expand and take on more risk, not much has actually changed," says Leps.

"We are still dealing with high inflation, low growth, higher taxes and increased fuel prices. Business owners need to invest carefully so that they are positioned to take advantage of the expected growth while still being able to slow things down in the case that the growth in the economy does not materialise as expected.”

Enough cash

Leps says that in this environment business owners need to ensure that they have enough cash in the business to keep it operating.

Bills need to be settled, employees and creditors need to be paid every month. Additionally, an emergency reserve should always be available in case equipment unexpectedly breaks, temporary staff needs to be employed at short notice or a key supplier suddenly needs to be replaced.

In any of these cases, not having cash on hand will halt a company in its tracks, regardless of its profit and turnover figures. Owners need to be able to focus on both the macro and micro issues at their companies so that they have a clear 360-degree view and can plan for things that they see coming as well as for unforeseen issues.

Leps explains that it is also vital for SMEs to be able to access credit quickly and affordably when they need to maintain cash flow levels.
“There are many funding options available to SMEs today. Making sure that the business maintains good credit scores, overall cash flow and debt will help the owner to get the credit they need to solve temporary cash flow challenges," he says.

It also works in the SME's favour to have up-to-date audited financials and to keep track of other non-financial aspects that prove to potential lenders that the business is being run responsibly.

“Cash flow is the lifeblood of any organisation, and understanding the relationship between profit, turnover and cash can mean the difference between an SME’s survival or failure,” Leps concludes.

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