Kevin gets his black belt (eventually!)

Having waited 6 months during lockdown, Kevin is very proud to have been presented with his black belt in a Porthcawl field last night.

His wife Beverley says it has been 5 years of blood, sweat and tears and several visits to A&E to get to this point!

Kevin adds “It goes to show what can be achieved if you put your mind to it!”

More than half of CFO’s expect a decrease of Revenue and/or Profits of up to 25% as a result of Covid 19

This according to PwC’s latest COVID-19 CFO Pulse, where they surveyed 989 CFOs from 23 countries during the weeks of 1 June and 8 June 2020.

But on a positive note, the report goes on to say that many companies have now weathered the immediate crisis by implementing safety measures and remote working, but are now thinking about what they need to do to survive and thrive going forward.

Such measures will include improving the workplace with over 70% of CFO’s saying they are working on safety measures and over 50% say they are improving the remote working experience. Over three quarters believe the increased flexibility and agility developed during the crisis is a factor that will make their organisation stronger over the long term.

Innovation will be a driving factor during the recovery period with nearly two thirds of CFO’s citing new or enhanced products or services as key. There are many examples to evidence this innovation such as distilleries producing hand sanitiser, 3D printers producing face shields and uniform makers switching to hospital scrubs. This coupled with flexible pricing strategies, flexible payment terms and alternative distribution strategies are all seen as the way forward in the survey.

The survey reports that the key concerns of CFO’s are the impact of a global economic downturn (60%), new wave of infections (58%) and financial effects (47%). But there has been a 42% improvement in the expectation of worsened efficiency since March as business has transitioned to remote working. Although there is deferral of general capex, CFO’s are still investing in IT and Cyber Security and less are looking to defer capex investment in R&D than previous surveys reported.

The report concludes “While bracing for a second wave of infection and working to enhance revenue streams, finance leaders will continue to prioritise agility as they navigate this new world.”

You can read the full report here:

Going Concern standard tightened

From next year businesses will need to improve their assessment of the going concern basis for financial statement preparation. This follows publication of the FRC’s revised standard in response to recent well-publicised corporate failures (Carillion and Thomas Cook etc) where the auditor’s report failed to highlight concerns about the prospects of entities which collapsed shortly after.

What is going concern?
A company prepares financial statements on a going concern basis under the assumption that they can continue operations for at least the following 12 months. It is assumed that the company does not have the intention, or need, to liquidate its assets, and the financial statements are prepared accordingly.

What does this mean for directors?
It is the responsibility of the company directors to provide an assessment as to whether the going concern assumption is appropriate.
For small companies this could include preparation of budgets, sales forecasts and a review of borrowing arrangements to ensure the entity can meet its obligations in the future.
For medium and large companies, the work would extend beyond that of small companies to include areas such as market/product/contractual risks and the timing of cashflows before they can conclude on the entity’s ability to continue as a going concern.

What do the changes mean?
The revised standard means UK auditors will follow significantly stronger requirements than those currently required.
This will involve work by the auditor to:
• more robustly challenge the director’s assessment of going concern and thoroughly test the adequacy of the supporting evidence.
• provide transparent reporting for large organisations on whether management’s assessment is appropriate, and to set out the work they have done in this respect.
• stand back and consider all of the evidence obtained, whether corroborative or contradictory, before drawing conclusions on going concern.

These changes are due to come into force from 15 December 2019 and going forward businesses will need to make sure they have a solid case for going concern.

6 lessons SME’s can learn from Debenhams going into administration

“Where am I going to buy my clothes if Debenhams closes down?” was a comment made by my wife when hearing they had gone into administration. This prompted me to take a look at Debenhams to understand what went wrong and the lessons that could be learned by other businesses.

The Guardian newspaper suggests the following issues at Debenhams:
1. They have too many stores (165) at a time when sales are falling and costs are rising.
2. Rents are too high at 13% of Sales with long leases taken out when sales were buoyant.
3. Online sales are improving but are only half the level seen by competitors (eg John Lewis)
4. Fashion ranges are not pulling in the customers as they did before.

Digging deeper into the financials for the past 6 years to 2018, they reveal a surprisingly consistent position given the analysis above. Prior to 2018 sales had remained broadly flat, gross profits remained at around 13% and retained profits (before exceptional costs) of 5%.
However, this hid the fact that store numbers in this period rose from 155 to 165. This backs up the Guardian’s comment that sales were falling (per store) due to the tough market conditions and lack of attractive fashion ranges.

From my analysis, there are six lessons that I think are relevant to SME’s. Please feel free to comment if you can see others that I have missed.

Lesson 1 – Financially assess investment opportunities.
In 2006 Debenhams had 120 stores and in 2019 they had 165, growth was 5 stores per year up until 2013 and 2 per year thereafter. Sales were dropping and profits were stagnating at best and they invested anyway. Growth is good but remember profits need to be improved to cover increased interest costs and investor covenants and expectations. Always financially assess the impact of investment opportunities to ensure they are viable before spending. I like Peter Cowgill’s attitude at JD Sports, where they seek opportunity driven investments rather than growth as a strategy in itself.

Lesson 2 – Failure to make hay when the sun shines
During the buoyant sales years, Debenhams failed to reinvest enough profit in the business (e.g. online offering, fashion ranges etc) and when things got tough it was too late. They needed to move with what the customer demanded and invest accordingly. Make sure you invest in the future whether it be with people, systems or infrastructure.

Lesson 3 – Keep a profit consideration in everything you do
Debenhams negotiated long leases at high rent during the buoyant years without due regard for future downsides. It appears that their growth strategy came before making profit. I talk about a profit consideration in everything you do in my article on working capital. Making a profit (and maximising shareholder wealth) should be part of any strategy.

Lesson 4 – Be careful about capitalising expenditure, it can come back to haunt you!
It can be seen that exceptional costs have been rising from £12m in 2016 to £36m in 2017 and £525m in 2018. This latter amount explaining why the reported loss was £394m in 2018 wiping out any profit before exceptional costs. The 2018 result was probably the “straw that broke the camel’s back” and lead to the lenders pulling out.

These exceptional costs related to goodwill, IT and onerous leases and restructuring costs primarily due to a downfall in projected sales. The lower sales lead to worsened financial projections leading to a requirement to create impairment provisions for items on the balance sheet. In other words, items were capitalised at some point in the past (e.g. goodwill on acquisition, IT costs, leasehold improvements etc) and they now needed to be expensed to profit. Delaying costs (e.g. by capitalisation or deferring expenditure) can come back to haunt you, always be cautious about carrying forward expenditure in this way.

Lesson 5 – Net current liabilities is not a sustainable position
Throughout the past decade, Debenhams were trading on negative net current assets, made possible because retailers tend to have high levels of cash. But in simple terms net current liabilities meant that they did not have enough cash to settle liabilities and conduct business. Not a sustainable position as we saw here. My article on working capital talks about ways this position can be improved.

Lesson 6 – Manage your cashflow as well as your profit
During the 6 years, Debenhams made profit before tax and exceptional costs of £605m, but in this period they only increased cash balances by £4.3m. There are things that make these two different (e.g. buying fixed assets v depreciating them) but not generating any cash can indicate stability issues (and creative accounting!). Running out of cash is the main reason for insolvency and was the problem Debenhams faced.

Cash movements as well as profit are both critical in the management of businesses and should be reviewed at least monthly within your MI.

I hope that a buyer will be able to restructure Debenhams and make it sustainable once more. Not least for the 25,000 staff who work there, but also for those Generation Xers and Millennials seeking fashionable clothes.