Recently, I was privileged to be a part of this magazine’s GROW Summit in Cleveland, Ohio. It was a dynamic group of incredibly creative people with great ideas to increase demand for the industry’s plant material. I hope they are able to go back to their respective operations and implement some of their product ideas and marketing plans. Their input is needed to help ensure that generations succeeding the Baby Boomers become more active gardeners. It’s good to know there is continued high-level thought and effort being expended to figure out how to push increased future sales.
I wasn’t surprised to note a scarcity of CFOs, CEOs, industry CPAs and bankers at the event. Any discussion about the top line of a business should be tempered with attention to the bottom line. These professionals are the people who can and should be instrumental in moving the discussion in that direction. Successful growing operations are those that have a good blend of people with some focused on sales, while others are focused on costs.
Lack Of Adequate Cash Flow Inhibits Future Growth
There have been successful companies that managed to grow themselves out of business. Here’s how it can happen: A grower maintains a plan to increase sales. This plan requires an investment in fixed assets, more equipment, more greenhouse space or a mixture of both. This creates pressure in generating adequate profits and cash flow to service the related term debt. It also requires an investment in inventory to meet the new demand. Banks typically advance about 50 percent on the cost value of inventory. This means the company needs to already have enough available cash to make the investment in the new inventory requirement.
Here’s the potential problem related to growth that requires some forethought. The industry’s profit margins for the past six years have serviced the long term debt, but they’re insufficient to support higher levels in the permanent inventory level to meet higher sales demand. At the same time, few growers have the cash to invest in higher levels of inventory on their own. This creates added pressure on the line of credit, which means the banker has to allow higher advance rates on the line of credit, but usually looks to return to more typical advance rates on the inventory.
Life doesn’t always work out as planned. Your growth year could bring bad weather and other unforeseen setbacks that occasionally affect all farmers. The result is an operating loss or, at least, meager profits below what your business requires. Your cash flow doesn’t cover your higher level of term debt servicing in the first year, that requires higher draws on your line of credit and higher advance rates on your inventory advance rates. Or, you have to ride your accounts payable well beyond the terms agreed to with your suppliers. Either way, some or all of your creditors aren’t happy.
If this pattern of small net profit margins repeats itself for too many years without some intervening years of stronger profits, your banker and trade creditors become less cooperative. You need cash, but with limited credit opportunities, it probably has to come from selling needed fixed assets and shrinking your operation, or finding an investor and giving up some degree of ownership. The irony is you have always been profitable, and the added debt came as the result of a great new opportunity. The problem is entering into this opportunity without an adequate cash cushion to withstand a little adversity.
Bring The Number Crunchers In Early In The Planning Process
An adequate cash cushion (working capital) and sufficient cash flow are easy to define in dollars, not ratios. However, to do it usually involves the participation of a number cruncher. Embrace it — invite them to your meeting and seek their input. They would probably love to get out of their cubicle for awhile.
It’s exciting to see the creative people in this industry devise strategies for marketing beautiful new varieties of plant material. The industry’s future is in good hands. But at the company level, when these meetings are taking place occasionally loop in the CFO, your CPA or even your banker to help ensure the financial requirements of the company, specifically working capital and cash flow, are and will continue to be met.