Tuesday, February 16, 2010

Flooring Companies: It's Time for your Annual Check-Up and Spring Cleaning

I believe the year starts when Surfaces is over and manufacturers have announced their plans for the coming year and introduced their new collections. Domotex, Surfaces and manufacturers’ road shows are over and it’s time to push ahead with 2010. However now is also the time to check your company’s health, perform the annual check-up and do some spring cleaning. This applies to all channels in the industry be they manufacturer, distributor or retailer.

By now most of you should be well along in the process of creating new budgets for 2010 but for those who may have just completed your audit or are still in the process here are a few suggestions I hope you find helpful.

The Physical: Examine Your Statements and Set a New Budget

Review your income statement for 2009 and compare it with 2008.
  • On a line by line basis compare the number for 2009 with 2008 and make sure you can explain the difference better or worse. This will enable you to keep doing what’s working and fix what needs improving.
  • Calculate your average selling price and determine why it has changed since the previous year. Was it caused by a change in the product mix (maybe people trading down in view of the difficult economic situation) or did it increase as a result of some new better margin products you began selling?
  • Compare the difference between total sales for ‘09 versus ‘08. Is the difference new customers, customers lost, or simply a change in volumes sold?
Regarding the cost of sales, manufacturers should compare labor and material costs on a “per thousand square feet” basis to highlight differences that need explanation. With distributors and retailers it’s a case of analyzing your margins. Did you have price increases from your suppliers you could not pass on or did you take advantage of any promotions?

Next, take a look at fixed overhead costs, the biggest portion of which is usually salaries and related costs. Calculate total overheads as a percentage of sales and explain the change. If it is higher maybe you should have reduced staffing levels.

Compare 2009's actual with the 2010 budget.
  • Determine if the 2010 budget is realistic. The most important questions to answer are: “How much does the market need to improve for the budget to be realistic?” and  “Is it achievable given present market conditions?” If the answers are “A LOT” and “NO” then your business could be in trouble because your budget is showing what you would like to achieve versus what is realistic.
  • Do the same comparisons as detailed in the income statement section and this will highlight the magnitude of the task. Having reviewed many budgets over the years it has always amazed me how often the first quarter of a new year is forecast to be so much better than the last quarter of the previous year. Businesses rarely turn around that quickly, especially in today’s economy.
If my comments apply to your budget then revise it so that you come up with a realistic achievable target. It’s okay to have a budget that is a stretch but not one that requires a miracle!

Compare working capital in 2009 with 2008.

This is all about cash flow by which all companies ultimately succeed or fail. I am referring to receivables, payables and inventory and their impact on cash utilization.
  • Receivables. The best method to measure receivables is to calculate the number of days sales outstanding (DSO) at the end of the year, or any period for that matter, and see how it compares to the previous period and your published terms. Keep a very close watch on receivables and remember that banks do not sell flooring (at least not yet) so you should not be lending money. Do not be afraid to put customers on hold if they are delinquent. It probably takes more than $10,000 in sales to recover a bad debt of $1,000.
  • Payables. It would not be ethical to suggest that you “drag your feet” when paying bills but be aware of discounts available and give those suppliers preference. Always make sure the value of the discount exceeds the interest payable if your business is operating on borrowed money.
  • Inventory. Inventories are an especially challenging and sensitive area. Think of your inventory as a big box of dollar bills because that is exactly what it is. It is very easy to be seduced by attractive pricing on bulk purchases but this will probably mean you have to fund this inventory for a significant period by paying for it before you sell it and this can put a strain on cash flow. Purchases from overseas pose a similar problem given shipping times and volumes involved.
So that completes your company’s physical. Spend a day on the exercises outlined above. I am sure you will find it very worthwhile. If you are a member of senior management it’s easy to gain access to these figures, but whatever your “pecking order," you should be able to see the numbers that directly affect your area of responsibility. Sales people can analyze sales by customer and reps and manufacturing people can look at the product mix of items produced to highlight the profitability, or lack thereof, of various products.

Finally, I want to talk about your Balance Sheet and that brings us to . . . .

Spring Cleaning: Review and Revalue Inventory and Receivables

In the same way we can fool ourselves with an over ambitious budget, it is all too easy to fool ourselves with the value of the inventory and the “collectability” of receivables.

Although your inventory may be correctly valued based on the original purchase price you must ask yourself “What can I sell it for today?” If it has been in your inventory for more than a year chances are it's worth less than your inventory listing shows. In the floor covering business, moldings are a prime suspect as are samples, displays and accessories. Do the exercise and spring clean your balance sheet by correctly valuing your inventory.

The same principle applies to receivables. If an invoice is unpaid after 90 days it is usually because there is a query surrounding it. Again, as part of your spring cleaning, get the old accounts cleaned up, resolve queries, and write off what is not collectible so your balance sheet accurately reflects what you can reasonably expect to collect.

After your physical your spring cleaning can now get underway.

I am not trying to teach you to suck eggs but merely pointing out the need to be realistic and having been in the flooring industry for more than 20 years I know it is not as easy as I may make it seem. It is however important because I do not see 2010 being significantly better than 2009.Please read my blog post from October which gave my thoughts about future trends in our industry: Wootton Takes a Look at the Future of Our Industry

If I can be of help to you let me know and similarly if you disagree with anything I have written I would love to hear from you.

As always, if you have, thanks for reading this.

David

David Wootton is President of The Wootton Group, an independent flooring consultancy, and a member of the Floor Covering Institute. He is past executive officer of both Columbia Flooring and Harris-Tarkett.

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