Please note: The approach outlined below is applicable to the majority of businesses and industries that are currently using overdraft as a cash flow buffer. However, Farming and Agribusiness overdrafts are treated slightly differently to the approach presented in this article. Please consult with a Certified Profit First Professional for expert guidance for your industry, business type, and financial goals.
What is an overdraft?
An overdraft facility is an unsecured line of credit designed to cover short-term cash flow shortfalls.
Overdrafts come in handy when you need to proactively manage common cash flow situations without being charged overdrawn or dishonour fees.
In most overdraft cases, interest is only charged on the amount overdrawn. A monthly service fee may also be charged, depending on the type of overdraft you choose.
Does Profit First work with an overdraft?
In our collective experience as experienced Profit First Professional accountants, bookkeepers and business coaches, the biggest challenge faced by many business owners that have an overdraft is that they want to maintain the overdraft and implement Profit First at the same time.
The good and bad news is that Profit First cannot be properly implemented without freezing the overdraft and not using it anymore.
The challenges of Profit First implementation with an overdraft
We find that the businesses with an overdraft facility available use it as a comfortable buffer, fall back plan, a comfort zone. Even though a business owner may want to implement Profit First to address their current cash flow situation, getting rid of the overdraft can be quite hard.
They think they want to get rid of the overdraft, but they don’t want to feel the pain of the interest.
Profit First implementation comes with an array of challenges for all businesses, especially during the first 6-12 months, due to the operational changes required. Change is hard in any business (and life in general!) but Profit First does work with an overdraft, if you have:
- a strategic plan,
- strict management to stick to the plan, and
- commitment to changing habits.
The biggest challenge Profit First Professionals deal with when an overdraft is in the financial mix, is the mindset change of the business owner, decision makers within the business, and the accounts department. Closely followed by the operational change in how money is managed, expenses are acquired and paid, and how the business will grow.
How to prepare for Profit First if you have an overdraft
If you truly want to implement Profit First, and you have an overdraft, then you must consider the overdraft as a debt. Consider it as a loan.
The first thing to work out is what repayment term you want to have as well as what repayments are doable for the business. These goals are based on the income coming in, existing expenses that are payable and the other changes that may need to happen.
From here we help you set the expectation of when your overdraft will be paid off, and establish the boundaries to not dip back into it as repayments start to be made.
Whilst the overdraft is there, it is not going to have the income funds going into it, so there will be interest charged. A percentage of the Profit First Operating Expenses (OpEx) account goes to the overdraft repayment each month.
The overdraft essentially becomes the OpEx account so that money does go into it but can only be spent based on what funds it has available to it. This is often a very difficult change for business owners to make in the early days of Profit First implementation.
Without the commitment to see the change through to the end, we find that businesses never get anywhere and stay stuck in debt.
We’re very aware of how hard the change can be and that you’re probably not going to like your Profit First Professional very much initially. However, there is no other way around it to solve the cash flow problem and to get out of overdraft.
If you’re committed to the goal, then your Profit First Professional will support you to achieve it.
Get out of overdraft – for good!
The whole idea of Profit First is to improve the cash flow of a business so that it becomes profitable and sustainable. If you implement Profit First without treating the overdraft as outlined in this article, you will find that it is tremendously difficult to ever get out of the overdraft.
Profit First can not effectively be implemented in a business without removing the overdraft. Not getting out of the overdraft essentially defeats the purpose of Profit First. So, before you start with Profit First, a definite commitment to get out is required before real progress can be made on the cash flow side of things.
A number of big operational, spending and mindset changes need to happen to make the goal of getting out of an overdraft a reality. This requires considerable preparation and a longer-term commitment to see it through. Because just like any big change in a business there is a curve of success: the big down during initial change before the up. It feels a bit like this: Really painful, painful, not making any difference, tipping point, realisation of progress, light at the end of the tunnel, relief, success.
As the saying goes:
“Change is hard at the beginning, messy in the middle, and gorgeous at the end.”
– Robin Sharma
As we’ve outlined, the first few months of change can be quite difficult as it’s a big money, habit and mindset change to make. So, as much as you might dislike your Profit First Professional for a few months, the end results will propel your business forward without you having to rely on an overdraft to fund your business.
If you are serious about implementing Profit First in your business, we highly recommend that you consult with a Certified Profit First Professional to ensure that you have the appropriate plan established to implement Profit First taking your overdraft into careful consideration. Working with a PFP also provides accountability and motivation to see through the initial (potentially) painful changes to your business.
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Please note: The approach outlined in this article is applicable to the majority of businesses and industries that are currently using overdraft as a cash flow buffer. However, Farming and Agribusiness overdrafts are treated slightly differently to the approach presented in this article. We highly recommend that you consult with a Certified Profit First Professional for expert guidance before embarking on Profit First implementation.
