As we all know, cashflow is the lifeblood of any business and often the reason why some succeed whilst others unfortunately fail.
Whilst maintaining a strong cashflow position might seem like the domain of your Finance team and accountants, the truth is that being on top of your contract terms is one of the best ways to keep money coming in when you need it.
Here are my top tips on how getting your contracts right can improve your cashflow:
Pricing for the future
Whenever anyone is negotiating a new deal, a huge amount of work goes into getting the best day-one pricing possible, but this is only ever the beginning not the end of the story.
Where I often see problems though is further down the line. The world moves quickly and the real challenge with contracting is to cover off what the future may hold.
Partner Commercial Team
Howes Percival
Hopefully, your contracts already account for inflationary increases each year or have assumed inflation built into your pricing. If not, they should, otherwise you’re effectively reducing your margin year on year. Where possible, inflationary increases shouldn’t be subject to negotiation, they should be automatic.
Beyond inflation, consider what specific costs might impact your profitability down the line? Are you particularly susceptible to increases in the national minimum wage, certain commodities or energy costs? If so, don’t just assume an inflationary increase will cover you as it may not. Consider what those pain points could be and make sure you can adjust prices for them.
Top tip, if you’re having trouble getting mid-year increases agreed, offer to base the increases on either an established commodity index or on proven cost increases for which you can provide evidence.
Finally, as well as the actual numbers, you also need to consider the timing for future price increases. If your suppliers want the ability to adjust prices, what notice would you need to pass on those increases to your customers and avoid you taking the hit for them.
Beware of deductions
Once you’ve addressed your headline price, you then need to make sure you’re clear on how the contract terms could affect how much of that price you will actually receive or pay.
There are a multitude of adjustments which could impact cashflow on any given contract, including:
- Service credits
- Volume rebates
- Liquidated damages
- Retentions
- Disputed invoices
- Customs duties
Where people usually go wrong with them is by not making sure their contract terms match what they expect to happen in practice. When putting together a new deal, have your commercial team and your legal team talk to each other to go through the deal mechanics first and then put them into the contract.
Set the right payment terms
Once your pricing is clear and you know your deductions, you can then look at what credit terms you’re offering. These will vary significantly depending on your industry and your bargaining power, but, as a general rule, you want your customers to be paying you before you have to pay your suppliers.
You also want to make sure your credit terms are appropriate for each deal and not just applied regardless of the situation.
For new customers, you should always be running credit checks to make sure they have the financial standing to pay you on credit. For long-term relationships, I recommend re-running those credit checks periodically or having alerts in place to know if one of your customers is struggling.
Contractually, the priority is to accurately document what the agreed terms are. I always recommend having payment terms be from receipt not date of invoice, to avoid you losing time to pay because someone forgot to actually send you the invoice. Also be careful whenever anyone sets their payment terms as ‘end of month’ as this can significantly extend the time before you get paid.
Finally, where you can, try to negotiate into your contracts the ability to adjust your credit terms in the future where a customer defaults on payment or has some financial difficulty.
Actively manage your contracts
One common phrase you’ll hear people say is that they hope their contracts ‘sit in a drawer’ once they’ve been signed. This may be true in some cases but for commercial deals the contract should be a live reference point showing how the parties should be working together as things go along (if it’s not you need a better lawyer!).
Having done the hard work to negotiate strong terms, you need to be proactive in applying them to ensure you’re getting the most value out of your contract:
- If you can apply price increases, make sure the dates for these rises are diarised and followed up.
- If a customer is in financial difficulty, make sure you’re using your rights to adjust credit to protect yourself.
- If you’ve offered credit terms, make sure they are being stuck to and don’t be afraid to take action if they’re not (there’s plenty of options available to address bad payers).
Contracts may not seem like the obvious way to improve your company’s finances, but the fact is most lines on your profit and loss account will be underpinned by commercial agreements so getting them right can significantly impact your prosperity in the long term. If you need help getting the most of your commercial contracts, the commercial team at Howes Percival will be very happy to help.
Contact Miles Barnes at Howes Percival on 01604 258066, email miles.barnes@howespercival.com
or visit the Howes Percival website
