In the Fall of 2016, Michigan CFO was engaged to work with an Engineering Company that had drawn significant concern from its bank. We were referred to the owners by the company’s strategy consultant who we’ve known for many years.
In 2014, the company started using the Percentage-of-Completion accounting method to determine how much revenue to recognize on projects underway, but not yet complete. One big concern management had, which also drew their bank’s attention, was the company had shown losses since 2014 despite having a more than enough cash to operate. In the Fall of 2016 with mounting profit concerns, the company’s cash position was finally becoming a concern as well.
The Solutions – Part 1
Two immediate objectives were tackled quickly. First, the company’s Work in Process (WIP) Report used to calculate percentage-of-completion revenue was not rigorous from an accounting standpoint. We quickly revised this schedule to produce an accurate revenue figure each month. This was more conservative (showing lower sales) than the previous approach, but management now knew exactly how much revenue they had really earned for the month.
Next, a 13-week cash forecast was constructed. Using pessimistic assumptions, it showed a looming cash crunch two months out. Upon learning this, the bank abruptly decided they’d had enough, and without notice pulled $224k out of the company’s savings account and another $27k out of the company’s checking account to pay off the outstanding line of credit balance. This moved up the cash crunch from two months out to immediate. This happened on December 21st – Merry Christmas!
The Solutions – Part 2
Michigan CFO immediately contacted an asset-based lender to get a factoring proposal – which would have faster approval than a broader loan facility. Working through the Christmas break, the asset-based lender produced an attractive proposal on December 28th. In the mean-time, we brainstormed with management about how to navigate the now immediate cash crunch. Small sacrifices – such as eliminating snacks in the lunchroom- were rejected since they wouldn’t produce much savings, and could raise a lot of concerns in a talent intensive company. Instead, we proposed a creative way to tie management compensation over the next eight weeks directly to cash collections, to ensure positive cash flow. The method allowed pay reductions to be both temporary, and recouped – based on collections. Management adopted this.
Perhaps with this pay plan in mind, the CEO soon contacted one of his best customers and offered a 2% discount on an open $100,000+ invoice in return for immediate payment. The customer agreed and appreciated the discount. These two actions along with several other smaller actions taken, bought the company 3-6 months to sort out the deeper issues of profitability.
On January 31, we closed a $750,000 factoring facility with the asset-based lender. However, by this time, the turnaround plan we developed with management had already started to bear fruit. Some new sales orders with upfront payments came in, and combined with the cash saving moves above we almost eliminated the need for outside financing.
To move toward profitability, we developed a budget plan for 2017 that projected a small profit and improving cash position. We also were able to project out the WIP report to estimate how much revenue would be earned by project on a monthly basis in order to forecast revenue more accurately – which management had not been able to do before.
Then in a shrewd move, the CEO (who owned the company’s building) connected through a customer with a group of investors to buy his building. The same bank that pulled the line of credit also held a mortgage on the building and was insisting it be refinanced with another lender. The CEO not only refinanced the mortgage through this transaction, but also cashed out the equity in the building and invested some of it back in with new investor group while retaining some ownership in the building.
The Results – a Record Year
With the above actions taken, improved financial reporting & monitoring, and a clear plan in place, the company’s management and staff were able to focus intently on execution. By the end of 2017, they recorded one of the most successful years in both sales and profits in their 26-year history! And they ended the year with $0 Line of Credit debt, and 2+ months operating expenses in the bank. . Not too shabby!
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