What to do When Cash Flow Becomes a Growth Bottleneck

I have a lot of conversations with the CFOs of small businesses (or whomever wears that hat). When we start talking about forward looking projections or analyzing their financial data, things tend to get tricky really fast. For most small businesses, whether consciously or not, “Finance” is often thought of as glorified bookkeeping. They track expenses, manage cash flow, and set budgets. That works just fine for businesses who are content with ~ 10% or less annual growth because nothing is changing fast enough to require a more systemized approach.

If you want to grow fast however, you will quickly face a massive and stressful bottleneck in the finance department. Most small businesses I’ve come across do not understand the practical relationship between the company’s finances, its business model, and its growth potential.

I recently came across a Harvard Business Review article titled “How Fast Can Your Company Afford to Grow?” by Neil C. Churchill and John Mullins. The fundamental insight that Churchill and Mullins discovered is what they called the Self-Financeable Growth Rate or SFG rate. The SFG rate is another way of saying, if we hold your company’s business model, capital expenditures, and externalities constant, and assume we pour 100% of our net margins back into the cash flow cycle to finance growth, how fast can our company grow without taking on external capital? In other words, if you put all of your profit each month back into inventory, marketing, etc. what growth rate do you expect to be able to achieve?

Now obviously, there are significant limitations to this exercise. The SFG rate does not account for some critical factors like capital expenditures, entering new markets, new product developments, headcount growth, etc. but the SFG rate is still a valuable tool for companies to calculate and analyze. It’s a good, albeit incomplete, metric of a company’s cash flows as it relates to growth.

I find that when small businesses analyze their SFG rate there are 3 initial takeaways from the exercise. 1) They realize they actually don’t have sophisticated enough financial systems to accurately track the information to even perform this analysis efficiently. 2) They realize their theoretical SFG rate is significantly higher than what they’ve been able to achieve in reality or 3) Their theoretical SFG rate is lower than they were expecting or at least lower than their goals for the business.

Assuming you’ve tackled problem 1 and are facing either problem 2 or 3, these are indicators that your team needs a better understanding of how your finances play into your overall business model. I know it may sound basic, but let’s really think about where, how and when cash comes in and goes out. How are these activities being prioritized and are the cash flow implications of them being factored into the equation? Do we consider cash flow when thinking about client contract renewals? Or which jobs on our shop floor to prioritize? Or which new hires we should make first? Or whether we should  factor our accounts receivable? Or even which deals in our sales funnel to put the most effort into?

If your company’s financial model doesn’t allow for the type of growth you’re looking for, send me an email. I’m happy to meet up with you and your CFO to dive in. Also be on the lookout for my next blog post as I dive deeper into how companies can drive innovation in their business model to transform their cash flows.