Working Capital Tools for Successful Business Performance (Segment II)

Preface: The cash conversion cycle to accrual method accounting is like photosynthesis, its happens every day but only few take the time to consider the importance of the process and the intricate implications. If your business is managed starboard, you can appreciate that reality that calm weather is more agreeable, i.e. satisfactory levels of working capital lead calm business management.

Working Capital Tools for Successful Business Performance

Credit: Donald J. Sauder, CPA, CVA

Liquidity measurements in an accounting equation calculate the ability of a business to pay and satisfy current period cash uses with assets that are easily convertible into cash, e.g. current assets. Liquidity measurements speak to the traction of liquidity, i.e. pace of collections of account receivables, inventory turns and inertia of liquidity, paying accounts payable or term loans to rapidly. In addition, fluctuations in line of credit from lack of operating cash can also lead liquidity volatility. journalist Matt Palmquist wrote an interesting article on working capital balances vs. shareholder value; excerpt-

“… the importance that companies attach to having plenty of working capital on hand, the firms in the study put an average of more than 27 percent of their total assets into net operating capital—a rather substantial amount. But the stock market’s reaction to the building up of strategic reserves was somewhat less substantial, the authors found.

For the average firm, every additional dollar converted into net operating capital was valued by shareholders at only 52 cents. Not only is this number obviously much less than the actual value of the amount being invested, but it’s also far below the US$1.49 valuation that shareholders place on any additional dollar held in cash or liquid securities”.

Certainly research supports that working capital doesn’t leverage business value, but it is like an insurance policy, if you don’t need it, you don’t need it. And If you do….?

Buoyed With Optimized Liquidity

Improvements in liquidity for entrepreneurs begin with increasing cash and cash equivalents, obtaining term loans, or line of credit increases for additional operating capital, i.e. finance inventory or accounts receivable increases, or reducing the cash conversion cycle, i.e. gaining traction on liquidity.

The cash conversion cycle calculates the amount of cash necessary to finance inventory and accounts receivables and keep accounts payable balance normalized. The cash conversion cycle is calculated with the formula of 1) number of days’ inventory is outstanding; plus, 2) number of days’ receivables are outstanding; minus, 3) number of days’ payable are outstanding.

Tracking the cash conversion cycle for one period is relatively uninformative; but tracking consecutive periods and changes in each consecutive segment, i.e. 60 to 50 days of inventory outstanding, 30 to 25 days of accounts receivable outstanding, and 20 to 22 days of accounts payable outstanding, will measure the cash conversion cycle analytics change from a metric of 110 to 97. Changes in the formula monitored consecutively period to period, will provide helpful analytical detail of the cash levels and when compared to competitors will offer visual insights into a business measurement of optimized accrual accounting working capital levels necessary for period cash inflows and cash outflows. This effort increases the likelihood of realistic financial projection on cash flows too.

With changes in a cash conversion cycle when adjusting from check payments to credit card receivable, the collection times of cash are markedly improved. Managing inventory dimples with reductions of obsolete or slow moving merchandise, as an analytical approach to cash, can usually free up more liquid cash to satisfy immediate debt obligations, or finance other short-term liquidity obligations.

The cash conversion cycle to accrual method accounting is like photosynthesis, its happens every day but only few take the time to consider the importance of the process and the intricate implications. The larger the business the more analytically valuable the financial measurements provided by an expert i.e. a chief financial officer (CFO), or accountant (CPA).

Working Capital Tools for Successful Business Performance (Segment I)

Preface: Monitoring your business from an analytical vantage point, results in greater awareness of financial performance trends. The larger the business venture, the more financial expertise required. To quote Kevin Harrington, “People must be realistic in evaluating their business.” Realistic, in the sense of working capital tools, whether you agree or disagree, seems to be that absent working capital there is zero liquidity.

Working Capital Tools for Successful Business Performance

Credit: Donald J. Sauder, CPA 

Working capital and sparkling water have shared a value. Too few realize how precious it truly is. Effective management of working capital and the effective management of operating capital and the cash flow cycle is always required for successful business performance. Adequate working capital is your businesses sparkling well.

Many entrepreneurs that habitually worry about managing their business ventures while applying skip planing financial metrics, would be advised to immediately develop effective working capital systems to guarantee long-term business success. That latitude of working capital techniques can vary from business to business, and entrepreneur to entrepreneur; and the forward supervision of entrepreneurial working capital for a venture is a continuous process.

Inadequate working capital usually results in a unwieldly web of financials perplexities in business. Those webs can range from shifts in vendor’s trust and credit ratings or flooded employee morale, to forfeited profit opportunity. Vendor credit trust is often essential and vital for a consistent supply of products or services to conduct vibrant daily business operations, e.g. if you lose credit with vendors, or your credit rating is impacted negatively, it is not an easy task to get the wagon backup to speed.

Should employee morale be flooded from delayed payroll checks, a high-tension work environment , or from vendor communication stresses, the intangible assets with substantial value from years of invested expertise and experience with your business products, processes, and customers, can evaporate too quickly, e.g. employees can depart. Forfeited profit opportunity occurs when neglected chances to obtain purchase discounts or incurring late payment fees lead to increased costs.

Optimal working capital permits you to keep sufficient levels of liquidity in the business at all times, fueling operational costs of say payroll or general expenses, or balance sheet developments with the financing of inventory and account receivable expansion.

Often busy entrepreneurs are inexperienced in effective working capital management managed with financial ratios and key performance indicators, or additionally, thoroughly understanding the analytical tools to measure and manage liquidity. You need to keep tabs on the complete sphere of financial data in your business. Financial resource monitoring requires advisedly a financial expert, e.g. a chief financial officer, or an accountant.

Monitoring your business from an analytical vantage point, results in greater awareness of financial performance trends. The larger the business venture, the more financial expertise required. To quote Kevin Harrington, “People must be realistic in evaluating their business.” Realistic, in the sense of working capital tools, whether you agree or disagree, seems to be that absent working capital there is zero liquidity.

Some goals of working capital management are 1) manage and balance resources and liquidity to optimize a business’s financial position 2) guide business expansion at a conservatively risk sustainable pace, and 3) monitor operational cash flows.

New Tax Laws Per The 199A Qualified Business Income Deduction

Preface: The tax reform passed in 2017 changed taxes in many ways. One change that excites tax preparers is the Section 199A Qualified Business Income Deduction. This section gives taxpayers a “free” deduction by allowing them to honestly deduct an expense that cost them zero dollars. Section 199A allows for a 20% deduction starting in 2018, and taxpayers may want to start thinking about it now.

New Tax Law Per  The 199A Qualified Business Income Deduction

Credit: Jacob M Dietz, CPA

The 199A Qualified Business Income Deduction provides a very helpful tax deduction to many businesses, including manufacturing and construction. The new tax deduction has numerous complexities and more details will follow.

The well advised will start the conversations early with their tax accountant about the 199A Qualified Business Income Deduction and the tax benefit implications to business, since it can substantially reduce tax liabilities in certain instances.

Brief Overview The Section 199A Qualified Business Income deduction is not available to C Corporations, and some of the details of the calculation have not been released yet. The 199A section provides a threshold ($157,500 for taxpayers filing single and $315,000 for married taxpayers filing jointly with their spouse) above which there is a phaseout of the deduction for service businesses. For nonservice businesses, this threshold triggers the need for additional calculations involving W-2 wages paid and unadjusted basis in property. Although there are many more details to this section, this bird’s eye overview provides a starting point for planning.

Income Threshold First, will your personal income be under the $157,500 if filing single or $315,000 if married filing jointly threshold? If so, then you don’t need to worry about a service business classification or your paid W-2 wages and unadjusted basis in property. If your income will exceed the threshold, then you may want to consider if there are ways to defer some of that income, such as by accelerating depreciation or using the installment method to report a large sale. If your personal income looks like it will still exceed the threshold after considering income deferral options, then consider if you are a service business.

Service Business What happens if your personal income will exceed the threshold when your business is a service business? A phaseout will begin for the deduction. The phaseout could eliminate your deduction completely. How do you know if you operate a service business? The Internal Revenue Code clearly defines certain activities as service businesses, such as an accounting firm. Other businesses, however, may fall under the classification of a service business if the business is “any trade or business where the principal asset of such trade or business is the reputation or skill of 1 or more of its employees.” It is unclear how aggressively the IRS will classify businesses with the service designation, but more details may come later.

Other Businesses What about businesses that do not fall under the service business classification? These businesses, as they reach the threshold, may avoid the phaseout IF the deduction does not exceed either

  1. 50% of qualified W-2 wages
  2. Or 25% of W-2 wages plus 2.5% of the unadjusted basis of qualified property.

Planning Opportunities

  1. Reasonable Compensation Reasonable compensation and guaranteed payments are excluded from the calculation of the deduction. Carefully consider what constitutes reasonable compensation and guaranteed payments if your business is taxed as a partnership. Consider consulting with a tax advisor early in 2018 regarding your guaranteed payments.
  2. W-2 Wages and Unadjusted Basis A nonservice business above the phaseout threshold may still take the deduction if it has enough W-2 wages and/or unadjusted basis in qualified property. A nonservice business could make some projections to predict if it has enough W-2 wages or unadjusted basis to still take advantage of the deduction if the owner is above the threshold.

The 199A Qualified Business Income Deduction provides a very helpful deduction to many businesses. It has many complexities and more details will follow, but start the conversation with your accountant soon about the 199A Qualified Business Income Deduction and the relevance to your business tax planning.

This article is general in nature, and does not contain legal advice. Please contact your accountant to see what applies in your specific situation.

Business Partnerships: Segment III of III

Preface: Partnerships require courage, collaboration, trust, risk and effort. These business pillars lead to a long and successful business relationship, e.g. partnership.

Business Partnerships

Credit: Donald J. Sauder, CPA, CVA

Partnership Buy-Sell Agreements

Let’s say you get along well with your boss, and you like the idea of share driving responsibility, and you want to drive the bus. Great! Then be certain to compose an articulate buy-sell agreement. A buy-sell agreement is a necessary legal document for any business with multiple owners. The cost and time to compose a buy-sell is miniscule compared to the benefits incorporated. A buy-sell agreement can help peacefully resolve family business disputes resulting from values-based or relational conflicts that require a change in ownership. It can help keep a business flourishing and help avoid liquidity or goodwill problems that arise during partnership conflicts, with a limit on the intensity of the conflict.

Buy-sell agreements can be either cross-purchases or redemptions say. A cross-purchase permits another partner to purchase the business interest while a redemption permits the business partnership to purchase the interest. In a partnership, these purchases have specific tax rules applicable with a IRC 754 step-up with either a Section 743 or Section 734 partnership tax basis adjustment.

A buy-sell agreement can result in automatic and involuntary sales of a partnership business interest, even at a specific price, should certain events occur, e.g. disability or death. It can also specify valuation metrics and sale parameters should a partner want to voluntary egress ownership, e.g. new opportunities, relocation, etc. Some businesses have specific rules that prevent business interests from being entangled in certain disputes with proactive involuntary rules of sales written in the buy-sell agreement.

A buy-sell agreement for a business should be composed with a business or tax attorney and your trusted advisors, e.g. accountant, to appropriately protect your business value should an activation of the agreement be necessary. A buy-sell agreement should include an umbrella of applicability, i.e. terms of who is bound by it and how it can be revised. It should include a metric for determining the price of buyout and timing of the payout, along with necessary funding rules. Applicable loans or security and collateral of the payout should also be addressed. Finally, rules of not-to-compete should not be omitted. In addition, transfers to owners trusts or estates and spousal involvement in ownership are pertinent, along with family transfers to children.

If you decide to enter a partnership, you should also write a business partnership values constitution. Easier said, harder to do. The partnership values constitution should outline what you “rules” you will govern the partnership with, and address the treatment of problems that could derail the partnership, mitigation of those problems. A partnership values constitution requires the hard discussions beforehand, well in advance of the day you sign on your share on partnership ownership


Partnerships require courage. Partnerships require collaboration. Partnerships require trust. Partnership require risk. Partnership require effort.

“There are moments in our lives when we summon the courage to make choices that go against reason, that go against common sense and the wise counsel of people we trust. But we lean forward, nonetheless, because, despite all risks and rational argument, we believe that the path we are choosing is the right and best thing to do.” Starbucks CEO Howard Shultz.