Historically, the fastest growing companies can grow themselves out of business fast. Why? They run out of cash. Their sales are increasing rapidly and their cash is decreasing at a greater rate. In other words, their sales are outgrowing their cash.
To determine how much you can safely grow, determine the sales increase you plan. For example, if you plan to increase sales by $100,000 this year, the rule of thumb says that you will have to invest an additional $10,000 cash, or 10% of that expected growth, in your business. That is hard money; not profits. If you don’t have the cash, grow only at the rate of inflation.
Where does the extra $10,000 go?
Let’s assume that you collect your receivables in 30 days. When you grow your business by $100,000, that is an additional $8,333 per month in sales assuming that you grow equally throughout the year. If your receivables are collected in 30 days, you have to fund an additional $8,333 in operating expenses to cover the additional sales for one month.
For those companies who have inventory, you’ll need to purchase the additional inventory to cover those additional $8,333 per month. Assuming that you can use what you purchase each month, then you’ll just need one additional month’s worth of inventory.
If you are hiring another person to help generate the additional $100,000 you have payroll expenses for at least one month until that person is productive.
You can see just with these simple examples, how you will need the extra $10,000 to grow.
It’s great that sales are increasing. Safe growth is essential for business survival. Make sure you have to cash to continue to grow and survive.