Case Study.
A client approached us to express their concern that over recent quarters they had found it increasingly difficult to find the cash to meet VAT payments.
We approached this by first shifting the client’s mindset regarding VAT as a tax and to ensure they were fully educated on the role of VAT within the tax system.
VAT as tax isn’t designed to eat into profit margins. It is a tax that is charged on top of sales price.
We then performed an exercise whereby we determined what level of understanding the client had about their current financial position. It transpired that, as the client only prepared annual year end accounts, they had no real understanding of their quarterly sales or expenses, or which of those expenses they were incurring input VAT on.
We then carried out a 4 step review and action process:
Step 1
Checked their pricing was correct. Per the above, VAT should be charged as sales price PLUS VAT. With the VAT element being retained to pay over to HMRC. The desired selling price should be the net position.
Step 2
Checked credit control and bad debts. If VAT is being correctly charged but there is still insufficient cash to pay it over, it might be that customers are taking too long to pay. So we checked overdue balances and advised the client to chase them to pay. We also advised them to consider shortening payment terms or moving to the cash basis (rather than the accruals basis), so that VAT returns are prepared on the basis of actual monies received rather than invoice date. Any bad debts over 6 months can be written off and the VAT reclaimed, so this process was carried out to reclaim VAT on old, irrecoverable invoices.
Step 3
Checked overall profitability, including ratio analysis (net and gross profit margins and leverage). If VAT is being correctly charged and customer receipts are received quickly, but there is still insufficient cash to meet VAT, it is likely that this is in fact due to a drop in overall profitability. Or more specifically an over spend on expenses or overheads with no input VAT to reclaim (such as payroll, Google ads, Facebook marketing etc). If the business’ profitability is low or is breaking even as a result of expenses with no VAT on them, this will be reflected in the cash over time (see calculation for an extreme example, but it paints the picture). It is worth performing a financial health check on the business to determine if this is the case. Particularly when the client is only currently filing year end accounts with no understanding of their management accounts or financial position at interim periods through the year.
Step 4
Got the client on board with quarterly Management Accounts and meetings to give the business and the management team the tools and information that they need to anchor in to understanding the numbers and the reasons for them, quarter on quarter. Recognising the patterns in what works and what doesn’t work for the business – doing more of what does, less of what doesn’t.
Y voilà – Growth!
