Sales Growth and Cash: The Paradox

Sales Growth and Cash: The Paradox

Is rapid sales growth good news for businesses?

Rapid sales growth can be a mixed blessing. It creates the circumstances for greater profit; but requires more cash to finance the larger volumes. Consider for a moment; what happens to the balance sheet, what accounts change when sales grow. Inventory and Accounts Receivable These trading asset accounts are intrinsic to the business Operating Cycle.

Essentially, businesses start with cash, they purchase materials which are processed or manufactured, distributed, sold and finally converted back to cash. While a processing manufacturer example is used here, service, wholesalers and other types of business are essentially similar

There are two types of sales growth, long-term (over a period of years) and seasonal. When sales grow; both Inventory and Accounts Receivable expand. Unless a business is very profitable additional sources of cash are needed from outside the business. Let’s look at an example:

 

Income Statement 2015 2016 Increase
Sales 1,266,000 1,645,000 379,800
Profit 75,000 97,500 22,500

 

Balance sheet 2015 2016 Increase
Equity 90,000 90,000 0
Retained Earnings 435,000 532,500 97,500
Accounts Payable 24,000 31,200 7,200
Credit Line 45,000 73,500 28,500
Total L and A 594,000 727,500 133,200

 

Assets 2015 2016 Increase
Cash  63,000 81,900 18,900
Accounts Receive 165,000 214,500 49,500
Inventory  216,000 280,800 64,800
Fixed Assets  150,000 150,000 0
Total Assets   594,000 727,200 133,200

 

Total Assets increased by £133200, as a result of the sales increase. Accounts payable and internal financing from profit provided some financing, (in this example all the profit was retained in the business) with the balance required from the bank line.

In general, the more profitable a business, and the greater percentage of profits left in the business, the fewer problems created by sales growth. With this in mind, sales growth causes the biggest financial problems for:

  • Business with low profit margins, or
  • Business with large percentage of total assets in accounts receivable and inventory.

Consistent and convenient access to short term or working capital finance, can be seen as one of factors that facilitates growth. Additionally, it is in the interests of businesses experiencing a sales expansion to understand and support the financing needs of their supply chain.

Woodsford TradeBridge can provide growth financing for fast growing companies and their supply chains by leveraging off their accounts payable ledger.

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