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Cash Management for CFOs in Recalibration Mode
Reprioritizing Spend Through Market Volatility
Read the Takeaways from Part 1 our Cash Management Series for strategies on keeping your company afloat during “Survival Mode” through RIFs and other cost cutting tactics.
As we approach a potentially extended season of economic uncertainty in 2022, private company CFOs need to ensure their companies have enough cash to weather short-term volatility and remain competitive in the long-term.
In part one of our Cash Management series for CFOs in The Circle, we explored the “survival mode” scenario of limited cash runway requiring RIFs and other significant cost-cutting tactics to extend company runway. However, companies with ample cash in the bank tend to use downturns to focus on reprioritizing spending and recalibrating towards efficient budgeting and resource allocation.
In part two of the series, we brought three experienced voices from our community together to share strategies for recalibrating spending in a downturn from both the operating and investing point of view: Jeff Epstein (former CFO of Oracle and operating partner at Bessemer Venture Partners), Yvonne Hao (former CFO of PillPack and co-founder of Cove Hill Partners), and Mike Jung (co-founding partner of our Founders Circle Capital).
Here are the Takeaways from the conversation:
Look for Efficiency in Your Margin Metrics
Using prior recessions as a guide, CFOs should anticipate needing at least two years of cash to weather market volatility. Fundraising conditions may worsen as stock market declines begin to bleed into private market valuations and impact the availability of venture financing.
To secure two to three years of cash on the balance sheet, CFOs should be pivoting from a “growth at all costs” mindset to capital efficiency on a unit economics basis.
“From an investor perspective, margins and efficiency matter a lot in this environment. When evaluating new companies, we look at everything from your burn multiple – what you’re spending for each incremental dollar of revenue – to customer retention and sales efficiency.” – Mike Jung, co-founding partner of Founders Circle Capital.
Yvonne shared how at PillPack, the leadership team decided to slow down growth for a quarter to get control of their unit economics, customer acquisition cost (CAC), and overhead. Digging into their financials, the PillPack team identified opportunities to improve profitability by changing product shipment schedules and reducing spending internally. “We optimized our shipping and packaging, renegotiated contracts, improved labor productivity – across the board, we changed the mindset from ‘growth, growth, growth’ to continuous improvement, margin, cash, and sustainability across the functions. Once we got control of the business, we started to drive growth again.”
Five Areas to Prioritize Cost Reductions
As companies think about where to scale back costs and increase balance sheet cash, Jeff shared his five-part framework for prioritizing spend:
- Venture debt – Venture debt can be a valuable alternative to equity financing, and CFOs should consider negotiating or drawing down venture debt before economic conditions worsen. If required, company leaders will want to ensure there are no existing covenants preventing the company from drawing down additional debt in the future.
- Projects & Initiatives – This can be an ideal time to consider abandoning company initiatives that don’t have a payback period of two or fewer years, whether it’s an R&D project or a struggling product that is simply draining resources. If you are hesitant to decommission the project entirely, consider reducing the number of people and labor allocated against it. (Oftentimes, CFOs have lists of these kinds of projects already and can use the adage “never waste a good crisis” to finally put them to bed.)
- Non-people costs – Leases for office space, vendor agreements, software licenses, and marketing initiatives outside of direct response are all critical areas to scrutinize before you start reducing headcount. Start by making a list of all your vendor costs from most to least expensive and work with your teams to assess where you can make cuts. Where there’s latitude, consider renegotiating contracts with your landlords or vendors or looking into third-party services that can help negotiate better pricing or extend payment schedules on your behalf.
- People Costs – Before conducting company-wide RIFs or bonus reductions, CFO should analyze “span of control” to identify where there are redundancies in reporting structure or too many “middle-managers” with only a few direct reports. Reducing the number of managers, or consolidating more direct reports under fewer managers, can significantly reduce the overhead associated with meetings, communication, and reporting. (Jeff’s point of view: seven direct reports to one manager is a good ratio to aim for at most company stages.) At the same time, the CFO should look for opportunities to shift headcount from high-cost areas to lower-cost regions through outsourcing, incentives for relocation, or layoffs.
- Customers – An alternative to cutting costs is increasing cash flow from customers. CFOs might consider testing out increases to pricing, requesting upfront payments from customers, or migrating month-to-month contracts to annual upfront billing. Sometimes, offering a discount for these options can spur enough demand (given the overall budget reduction climate) to make a significant impact on cash flow.
Striking a Balance Between Revenue Growth and Thoughtful Cuts
Naturally, CFOs will be looking for ways to preserve revenue growth in the current environment. Growth typically requires investment in marketing and sales; however, CFOs should assess and prioritize the tactics with the highest ROI and payback periods within 1-2 years.
“Make a list of your marketing and sales tactics from most productive to least productive and start cutting from the bottom. If the cash payback is over 24 months, even in good times, that’s probably not efficient spend.” – Jeff Epstein, operating partner at Bessemer Venture Partners.
Economic conditions may change customer acquisition cost and payback periods. Therefore, it’s essential to constantly measure CAC payback and LTV to ensure it’s improving over time.
Jeff caveated that profitable companies with good fundamentals and plenty of cash may want to use the downturn to gain market share, especially from a talent perspective: “You can hire quality people laid off by other firms, and it becomes a terrific opportunity to come out of the downturn stronger.”
Aligning the Organization Around Cost-Cutting
Even the most robust spending strategy will be rendered useless if there isn’t alignment across the organization.
“The CFO must ensure every leader understands the business’s health. I would spend a lot of time scenario planning, showing how day-to-day decisions impact forecasting, runway, and cash flow. Bring in banks and board members for external validation and to help paint a picture of how the culture needs to change for the business to succeed over the long-term.” – Yvonne Hao, former CFO of PillPack
One effective way to create alignment across leadership is by creating three versions of your spending plan – the existing version, what you think might happen, and a downside scenario. The downside scenario should detail what drastic actions need to be taken by everyone in the company to avoid severe financial distress. Then, set firm dates for when you’re going to collectively check in against the three plans. If, when that date arrives, the company is closer to the downside scenario, everyone will already be aligned on the path forward.
For private companies with ample cash on the balance sheet, reprioritizing and re-forecasting spending over the next two years will be critical. CFOs can help their companies remain well-positioned in the long-term by establishing a clear framework for capital efficiency with alignment from other leaders in the organization.
Stay tuned for part three of our Cash Management series focused on “Profitability Mode”. If you’re a CFO looking to connect with other growth-stage leaders on current challenges and long-term strategies, apply to join The Circle.