Growing broke
Sales are up. So where is the money?
Growing broke is when a business sells more and has less money to show for it. It happens to good, profitable businesses. It can start in a year that looks like a good one.
2 ways to grow broke
Sales can climb while the money goes backwards in 2 ways. You keep less from each sale. Or growth ties up your cash before it comes back.
Plenty of businesses have both at once.
1. You keep less from each sale
It is like working more hours and finding your pay went down.
As sales grow, costs creep in. A discount to win a bigger customer. A supplier price rise you did not pass on. Each one takes a little off your Gross Profit %, the share of each sale left after Cost of Sales.
- Last year: sales at 40% Gross Profit
- $1,000,000
- Gross profit last year
- $400,000
- This year: sales at 33% Gross Profit
- $1,200,000
- Gross profit this year
- $396,000
20% more sales, and $4,000 less gross profit to pay for everything else.
The business is busier, with more work and a bigger team. There is less left over to pay the overheads and you.
More sales at 33% do not bring the margin back to 40%. Every extra $100 of sales keeps $7 less than it used to, so the gap grows as you sell.
2. Growth ties up your cash
Many businesses pay their costs before their customers pay them. You pay wages and suppliers this month. The customer pays in 45 days.
So every jump in sales needs cash up front. Customers owe you more, and more money sits in inventory. The profit is real. It has not reached the bank yet.
- Extra sales this year (the business above)
- $200,000
- Days customers take to pay
- 45
- Extra owed to you at any time ($200,000 × 45 ÷ 365)
- about $25,000
The profit is real, but about $25,000 of it is still owed by customers, before any extra inventory.
Bigger customers often pay more slowly, which makes the number larger.
Bottom line: more sales are not the answer
When sales are up and the money is down, the instinct is to sell harder. Selling harder on the same prices and payment terms makes both problems bigger.
Check the margin and the cash before the next push for growth.
What to do first
- Check your Gross Profit % for the last 12 months against your best year. If it has slipped, find out which customers or jobs slipped most.
- Check the prices on the work you are winning now. A discount that won one customer can spread to many more over a year. (See what a price rise does to your profit.)
- Count the cash a growth plan needs before you start: the extra customers will owe you, plus the extra inventory.
- Get paid faster. Invoice on the day the work is done. Give one person the job of following up overdue invoices.
- Ask whether this is the growth you want. Some sales cost more than they earn.
How Focus on Cash shows it
Focus on Cash reads your Profit and Loss and Balance Sheet and flags both patterns in plain English.
- Growing Broke is flagged on the Profits screen when sales are going up and Gross Profit % is going down. It shows how much profit you give up compared with your best Gross Profit %.
- Growth Eating Cash is flagged on the Cash Flow screen when sales are going up, cash from trading is lower than profit, and customers or inventory are taking more than 5 days longer than at your best.
- For advisors, Portfolio Health marks a business Watch when sales are up and cash is falling, and Needs attention when trading is also using cash.
The What If screen lets you test the fix. Try a price rise against more volume, or fewer days to get paid. See what each does to profit and cash before you commit.
Related: Cash trapped, the money tied up in your business beyond your best month, and how to get it back.
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