When businesses become overleveraged, bad things happen. When businesses are able to maintain financial flexibility, they’re far more likely to enjoy long-term success. Where does your business land on this spectrum? And what does it look like to move from overleveraged to flexible?
What Does it Mean to be Financially Flexible?
Every CFO and finance guru will have his or her own opinion on what it means to be financially flexible, but it’s ultimately a company’s ability to quickly access new funds to satisfy major business needs that arise suddenly as the result of an opportunity or crisis.
According to an academic study on the effect of financial flexibility on financial behavior of publicly traded companies, firms with financial flexibility are able to stand against financial pressures in an unexpected situation and seize a profitable opportunity. This means they’re able to come up with the cash needed without incurring negative financial circumstances in the present or the future.
In other words, financial flexibility is the measure of an organization’s ability to do what it wants when it wants without compromising the larger financial picture. The benefits of which include:
- Quick response. When a business is financially flexible, the company is able to make quick decisions on how to react to situations that demand a rapid response. In certain industries, this can mean the difference between seizing market share and becoming obsolete.
- Future stability. Companies that lack financial flexibility often pursue present opportunities at the expense of future growth and sustainability. When you have flexibility, you don’t have to mortgage the future away.
- Better focus. Think about how much time and energy goes toward figuring out the best way to finance a major business decision. For firms with a high degree of financial flexibility, less energy has to be given to this part of the decision. Instead, focus can be directed toward creativity and execution. Money is still an important issue, but it isn’t the primary
- Greater adaptability. Financial flexibility gives a business the ability to adapt, pivot, and evolve with relative ease. There’s far less friction involved in the process, and you’re able to do more with less.
- Less volatility. When money is tight and there are questions about how certain expenses and projects will be financed, business leaders often feel like they’re being tossed around in a pinball machine. But when a firm is financially flexible, there’s far less volatility. A sense of calmness leaches into the company culture and everyone feels at ease.
Financial flexibility means different things to different business leaders, but it’s something every company should strive for. With it, there’s far more potential and peace of mind.
5 Tips to Achieve Optimal Financial Flexibility
Financial flexibility sounds great, but how do companies achieve it? That’s a question that business leaders and corporate executives have asked for decades – and one that doesn’t have a perfect response. But if you want to increase your organization’s chances of enjoying greater financial flexibility, here are some practical steps you can take in a positive direction:
1. Use Profits Wisely
Let’s start by talking about profitability. For businesses with healthy bottom line profit margins, there’s ample opportunity for financial flexibility. Unfortunately, many of these organizations squander the profits in a selfish and/or unsustainable fashion. Don’t let your company experience a similar demise.
For young companies, in particular, there’s a temptation for business owners and executives to quickly turn profits into cash bonuses and salary increases. (Naturally, the folks making the money want to pocket some of the harvest.) But consider whether or not this is the best approach.
When profits are immediately turned into year-end bonuses, the business remains stagnant. While the company has grown, cash reserves haven’t. Eventually, too much growth without healthy increases in cash will create an imbalance and profits will fall – at which point (ironically) there won’t be any way practical way to build up those cash reserves.
It’s okay for business owners and executives to take some small bonuses when profits exceed expectations, but do so sparingly. The majority of profits should be reinvested into the business by bolstering a cash emergency fund or paying down debt (which ultimately improves future cash flow). In doing so, you’ll ensure that the business model is sustainable for years to come (yielding greater personal financial benefit down the road).
2. Develop Better Budgets
Now that we’ve discussed profits and how they should be handled, let’s dig into the topic that nobody likes to discuss: budgeting.
If you’re serious about achieving financial flexibility, you need a budget — a detailed budget that tells your money where to go. Only then can you maximize your revenue, reduce expenses, and put your business in a position to afford the investments that are needed to flourish.
The key with a budget is to avoid expense creep. If you aren’t careful, expenses will slowly get tacked on to your budget month after month. It’ll look like $25 here, $300 there, and $100 over there. In the grand scheme of things, this might not seem problematic. But suddenly you look up and two years from now your expenses are $2,000 higher per month than they were when you drafted your initial budget.
Budgets fluctuate, but expenses shouldn’t creep up on you. Plan ahead and take charge. This will leave you with a healthier profit margin, which will yield greater flexibility.
3. Use Strategic Financing
Financial flexibility isn’t about having cash to pay for everything. Very few large organizations are totally debt-free (nor should they be). Debt is a powerful instrument that serves a distinct purpose. The key is to use financing strategically.
Instead of taking on a bunch of debt just for the sake of having debt, be purposeful about which types of financing you use and what purpose they serve. The key is to have access to funds without paying interest on funds you don’t need. This is why many organizations turn to a business line of credit — and perhaps you should too. It improves cash flow on an as-needed basis and basically serves as an insurance policy that can be tapped in times of opportunity or need.
“The amount of funding accessible to your business, along with the repayment terms, depends on a variety of factors including your credit rating, revenue stream, longevity, and other financial variables,” Business Line of Credit Hub explains.
Be careful not to overestimate your need for credit. Run some estimations and calculations to determine the type of scenarios that would require you to tap into this line and how much you’d need in a worst-case scenario. This will help you zero in on a figure that’s adequate for your needs.
4. Diversify Your Revenue Streams
We’ve spent the bulk of this article discussing ways to manage money with intelligence so that your organization can enjoy a greater degree of flexibility. However, it’s also smart to think about how you’re producing revenue.
For optimal flexibility, look for ways to diversify your revenue streams. This will ensure you’re able to weather storms, crises, recessions, and other painful circumstances.
“What separates brands who survived the financial crisis from those that were swallowed whole by it, is the flexibility in their business models to offer value to multiple demographics and customer segments,” entrepreneur Tahnee Elliot explains.
When you have a wide customer demographic, a single negative economic condition isn’t going to run your business into the ground. You’re poised to weather turbulent conditions and can let other revenue streams prop up the areas of your business that are struggling.
5. Avoid Crippling Mistakes
Maintaining financial flexibility isn’t just about doing the right things — it’s also about avoiding mistakes that can otherwise cripple your business and handcuff your finances.
Excessive debt on depreciating assets is one surefire way to kill your cash flow and limit your ability to pivot in situations that call for action. You should also avoid hiring people who go against your financial ideology. Too much friction among financial decision makers will lead to sloppy mistakes that are hard to recover come.
Give Your Business a Strong Foundation
One of the first things an entrepreneur learns in business school is the importance of staying focused on the present. If you get too caught up in the past, you’ll miss out on what’s happening in the moment. And if you daydream about the future, you’ll fail to seize opportunities as they emerge. But having said all of this, you can’t ignore where your business is going. Your organization needs a strong foundation upon which you can facilitate future growth.
Financial flexibility allows you to accomplish both at once. You can make intelligent decisions in the present and simultaneously set your business up for future success through smart financial choices and sustainable strategies that maximize profitability at every step along the way.
Heed the advice outlined in this article and figure out how it aligns with your current business strategy. Start with the low-hanging fruit and focus on making incremental progress. Your momentum will eventually carry you into bigger and more transformational undertakings.
Republished by permission. Original here