What causes regular working overtrading?

Overtrading happens when a company takes on more business than its resources can support. Many business owners spend time worrying about not being able to attract enough work as opposed to taking on too much. When a large order comes in or sales start taking off, there is usually cause for celebration. However, fulfilling increased order levels without the right level of resources may become impossible. Failing to plan for this uptick can catch many businesses off guard.

One of the dangers of over-trading is that productivity, morale and the quality of goods or services delivered can suffer. Employees may be overstretched by working longer hours to fulfil orders. When absence strikes – whether through illness or holidays – corners may be cut to rush orders through. This may result in a reduction in the quality of goods and impede repeat business or extend customer waiting times.

Businesses with a small number of high-value orders need to consider the impact of a customer failing to pay on time. The consequences of being forced to take on additional staff or acquire additional resources to meet demand also need careful consideration. This could leave large overheads when demand slows down. So it is vital that you plan for all eventualities.

What are the key indicators?

Having a dashboard of financial indicators can help you monitor the warning signs of overtrading and prevent any long-term damage to your business. Typical warning signs may include:

1. Significant growth in sales/receivables.
2. An increase in debtor days.
3. Growth in your cost base and adverse changes in creditor days.
4. Changes in the number and sum of short-term credit lines.
5. Experience frequent cash shortages.
6. Late supplier payments and debtor receipts.

"When overtrading, it is vital that your key functions work collaboratively together."

Managing Director/CEO

When faced with overtrading, it is vital that your key functions work collaboratively together. The Managing Director/CEO needs to take control of the emerging situation by establishing the root cause for over-trading and ensuring resources and capital levels are adequate to support additional incoming business.

It is important to make sure the sales pipeline is accurate and visible across the organisation. You will also have to decide whether the profit margin on extra business is sufficiently attractive to justify the risks of taking it on.

Financial Director

The Financial Director needs to take responsibility for identifying internal and external solutions to protect cash flow by establishing the impact of additional business on projected cash flow, stock balances, payables and receivables.

The FD should also Identify if prompt invoicing, modified contract terms or discounting could help manage faster cash receipts. It will be time well spent to re-negotiate existing supplier arrangements such as higher volume discounts or better payment terms. The FD should also determine if an external capital solution such as reverse factoring, term loan, leasing or equity will help improve the situation

Sales and Operations

The Sales and Operations teams need to support the MD and FD by identifying opportunities for customer down payments to cover risks or fixed costs. It would be wise to ensure customer payment schedules have clearly defined milestones for billing and sufficient granularity of payments to reflect value delivery.

A key focus for the sales and operations teams will speeding up billing milestones on existing jobs. This will undoubtedly require a review of the overall efficiency of the existing workflow design and resource planning through transformation projects.

Key points

Always check if the capital within your business is sufficient and aligned to growth needs. If organic capital and cash flow efficiencies are already maximised, explore external working capital solutions. These may include expediting revenue cash receipts, reverse factoring to elongate supplier payments and stock loans to reduce cash drain. Always seek out the most cost-effective or flexible capital solutions to support your growth requirements. But always check what covenants, security or compliance requirements these involve.

I hope this article has provided some useful tips on what may trigger overtrading and how your teams should work together to mitigate any long-term damage. See how we helped Dunton Environmental overcome its over-trading problem in the success story below.

We work with growing UK SMEs and small-cap PLCs that have funding needs in excess of £2m and regularly approaching £100m. Our clients’ needs will typically be for sophisticated finance products such as cash flow based lending or private equity investments. Our value lies in helping clients access funding that relies on confidence in future trading and cash flows. For a confidential, independent, no obligation discussion on the funding options available click the 'Let's chat' button.