How I saved my business from a cashflow disaster

Consultancy group Cordelta has managed to establish a solid name for itself in Canberra, with several high-profile clients including the Department of Defence, the Commonwealth Bank and Telstra. Revenue grew to $13.4 million during 2008-09 and growth has stayed at an average of 58% over the past three years.

But six years ago, a partnership nearly killed the firm. Founder Ken Gutterson says the company had to take on several new staff and the cashflow was strained.

As a result, the company came up with a new metric – called Days to Ruin – designed to help the company determine when it was the best time to hire a new employee. He says more small businesses should do the same to keep themselves on track when it comes to finances.

Can you describe your business a little and give an update on how things have gone?

We define ourselves as a diversified professional services business, specifically in management consulting and information technology services. We’ve had very rapid growth in the past 12 months thanks to a surge in January to June. We’ve acquired some quite large projects which have required internal development, and have hired a stack of additional staff as a result.

There was a hiatus when the election was called, and they’re only starting to come back now because the Government has settled down and federal departments are more confident about authorising work. With the rapid growth there have been a few issues including a governance perspective, making sure we’re not making cowboy deals and so on.

When did you start up?

Back in 2004 when we started the business there were four of us, and we operated in a traditional ownership structure where four people had a fixed percentage of the ownership in ordinary shares. Then about nine months later we came up with the idea of radically changing the structure and having flexible equity.

That meant people could join use and take up an equity share. That proved to be a very good model because people could join us. Otherwise it would have been very unattractive for other people to join.

And then you came across this partnership, is that correct?

We worked together with a small software testing business, and then we went from a small number of people to taking on all this staff. We found that we had to meet all these different cashflow commitments, as well as our own, and the money was coming in but it was taking a long time.

But that move was attractive for a few reasons. Firstly we could introduce new capabilities into the business, which means we could present ourselves as stronger clients. We acquired additional networks, and it also improved our financial strength because we now had multiple sources of revenue.

We are a diversified business, and this was a deliberate strategy to strengthen the financials of the business. And it’s working.

But there were also some cashflow problems…

When my partner Matt and I sat down and looked at what was occurring, we found there was a fairly significant drain on cashflow for the first few months – and we started to wonder whether it would come to an end.

We were very analytical, did some projects, and while everyone was quite keen to take on more staff, we were also wondering whether we had the financial basis to do that or not. And it got pretty close.

So how did you figure this out?

It was the recruitment decision that really pulled us to that point of looking at the business from a cashflow perspective. Every time you bring on a new staff member, you don’t know if they’re going to work out or not, there are plenty of questions, so you have to ask, how long can we afford to keep that person if they’re not generating revenue? How long can the business continue if you don’t have any more work?

That’s what we decided that we wouldn’t hire anyone based on a metric we created, the “days to ruin” metric. If we were within 100 days of ruin, we wouldn’t hire anyone.

Can you describe that metric?

We decided that we wouldn’t hire anybody until that end-of-days metric was at 100 days. That was a nice round number, but we came to it by thinking about how much it gave us in a reasonable amount of time to find additional work.

That amount of time also gave us a lot more time to take corrective actions in terms of staffing numbers and so on. We initially wanted to set it at 20 days, but that 20 days would just come and go so quickly.

Did the idea go through any sort of evolution?

We also wanted to make it six months but if we set our “days to ruin” metric at six months then we would never hire anybody at all. Business has a reasonably short horizon, and the reality is that in six months anything can happen. But opportunities open up and that metric of three months gives you a good amount of time to find new work if something happens.

Do you still use it?

We don’t really use it any more. For one thing, we now have multiple business units. We found that metric was a good one to get us through the early days, but now we’re a much larger company and have much larger concerns. We manage cashflow at a higher level, and have a number of different ways in managing that now.

We also have substantial reserves to cover future commitments and we don’t need to be looking at cashflow when it comes to a month-by-month analysis. We do broad planning at the macro level but we’re working now on more of an accrued profits basis.

Should other businesses be using some sort of metric like this?

It’s extremely important to have that type of metric in your business. If you have that metric, it really helps bring the focus in to your business. You can get carried away with planning and so on, but the reality is you have to pay the bills, and if there is a metric that lets you know you have three months until the money dries up, then it’s a serious issue.