Note: I've written a lot about cash flow over the years. Please see these posts, for example:
- How to Get Your Money Straight: Do It
- Response re: Cash Flow (Part of the Managed Services in a Month series.)
- Quick Quiz: Handling Money
Today we're going to talk about the most important rule of all: Get Paid In Advance as much as possible.
- Overview -
Unfortunately, many people start their small businesses with the assumption that they need to extend credit to their clients. A handful of entrepreneurs somehow escape this mindset and never fall prey to the cash flow trap. As a general rule for success, you should collect as much money as possible in advance.
Here's the basic problem: Timing.
And the basic reality: Money owed to you has a value less than one dollar per dollar.
The timing part is really the essence of cash flow. Let's say you do $10,000 worth of work. Due to different client arrangements and paying habits, you might expect:
$1,000 within the next week.
$3,000 more within the next two weeks.
$3,000 more within the next month.
$3,000 more within the next two months.
In reality, you have bills to pay next week, the week after, this month, and next month. Getting "paid" $10,000 is great. But your creditors don't care that you've extended credit to your customers. In this scenario, you'll pay your employees and your landlord more than once before you get your money.
And the sad truth is that old money has less value. Money that's more than 30, 60, 90 days old will probably be paid back with a "deal" that's less than face value. I've talked to many consultants who are owed $25,000 or $50,000. Some even more. Every one of these folks would happily take 75% of the total just to get the money now.
If you operate that way on an ongoing basis, then you need to build that into your rates. When you combine all clients, if you collect $90 for every $100 billed, then you need to adjust your budget to assume your effective billing rate is $90.
There are a handful of successful practices that can make all the difference with cash flow.
Start with the assumption that you'll get paid in advance whenever possible. To be honest, making this change in the middle of a recession may be the best possible timing. You won't have to feel guilty about the change, and your clients will understand how tough things are.
Here are our basic "paid in advance" policies.
Hardware and Software must be paid in advance before you order it from the distributor. Period. If the client goes online to Dell or CDW, they'll pay in advance. Sometimes weeks in advance. You have less credit and less cash flow than Dell or CDW. You just can't be out for the cost of equipment.
Project labor must be paid in installments with a portion up front. Whether it's the setup fee or simply 25% of the project, you need a big lump up front to cover costs and payroll for the project. The remainder should be paid on a schedule. The Schedule should be based on the completion of stages, not on a calendar schedule. If you give a calendar, make it an estimate and be clear that payments will be due upon the completion of stages.
All Managed Service payments are due on the first day of the month. If the client pays by credit card of debit card, the card is run on the first day of the month. If the client pays by check, she must pay for three months at a time, due on the 1st of the first month. That means she needs to get her invoice a couple of weeks early.
By ALL managed services, we include Hardware As A Service, equipment rentals, remote monitoring and patch management, remote support, prepaid blocks of time, SPLA or other licensing, and hosted services (spam filter, anti-virus, etc.). Anything that's billed regularly is paid in advance.
Cool. So now you're getting your money up front. In Managed Services in a Month, Service Agreements for SMB Consultants, and pretty much every other book on managed services, one of the greatest benefits you'll find is getting you money on the first day of the month.
There is a great joy in knowing that you've got the rent paid and all of the payroll covered. It really is a beautiful thing.
In two weeks we'll discuss some simple rules to enforce this.
- Implementation Notes -
The hardest part about implementing these policies is YOU sitting down and writing a memo to your clients. All of these policies are rational and straight forward. They make good business sense, and are SOP for most businesses. Somehow, small business consulting hasn't caught on.
So you just need to write a note to your clients that says that, due to changes in the business environment, you have found it necessary to implement a few changes to how you operate. I've actually got a sample memo along these lines in the Managed Services in a Month book. But it's really simple.
Your memo will include:
- Intro paragraph
- Statement of your new Hardware/Software prepayment policy
- Statement of your new Managed Services prepayment policy
- Thank you note for continued business
Give at least 30 days notice. So, basically, you policy will become effective the month after next. For example, if you send the memo on September 9th, then the policy would be effective November 1st.
After that, you just need to make sure you billing/invoice/front office and sales folks follow the new processes. It may take a little getting used to, but it will be fine.
- Forms -
There are no specific forms for implementing this SOP. You might write up a brief description of the procedure and put it into your SOP or binder.
This kind of policy requires that everyone on the team
1) Be aware of the policy
2) Practice the policy
3) Correct one another's errors
4) Support one another with reminders
Your Comments Welcome.
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About this Series
SOP Friday - or Standard Operating System Friday - is a series dedicated to helping small computer consulting firms develop the right processes and procedures to create a successful and profitable consulting business.
Find out more about the series, and view the complete "table of contents" for SOP Friday at http://www.smallbizthoughts.com/events/SOPFriday.html.
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Next week's topic: IP Address Allocations
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Flash back 16 years ago. I was in the 6th grade. I met someone through a BBS that wanted a computer and I thought "Hey, I can build computers! Let's do this!" So we agree on specs and a price and I make it happen. I deliver the goods and while I'm plugging in the monitor and everything he decides he no longer wants Windows, he just wants to run DOS. Ok, easy enough but weird. Then he wants X Y and Z. Well, I can do that but it will take time and by that point I had to go.ReplyDelete
Well, he didn't want to pay me because I wasn't done. I said he needed to at least pay for the hardware now because I had to pay back that portion of things ASAP. Great, he wrote a check. I gave it to my sister who had a bank account and away we went.
He stopped payment on the check.
I came by to collect the computer and he said he would call the cops on me.
What did I know? I was a dumb kid! So that man stole a computer from a 6th grader. GG old man who is probably dead and rotting by now.
But I learned my lesson with my first customer. So I've been a firm believer of that SOP for some time.
PS - My mother was in business when I was even younger. She was in interior design and had done an office design for a big hotel here in town. She had everything ordered and in storage and that Friday was delivery day for a weekend setup. That Thursday the guy skipped town, the company went under, and it wasn't until 5-6 years later he was arrested. By that time he was so broke no one got any of their money back.
So I grew up using office furniture for my bedroom set.
That's a great story, Sean. If I ever write a book about this stuff, can I use it as an example?ReplyDelete
Thanks for contributing.