SMEs change pace to safeguard cash flows

In 2009, following the economic crisis, SA's entrepreneurial activity (TEA) dropped from 7,8% to 5%* as SMEs battled cash flow and other challenges in volatile markets. The new year brought scant relief as the sector remained under considerable financial pressure. With "quick win" cost cuts typically already deployed, it was clear that a new approach was needed to safeguard SME investments in 2010.

World Wide Worx MD Arthur Goldstuck supports this view, saying: "We have been impressed by how resilient SMEs have been this year. We believe they have been "toughened up" in the previous two years of hard times. Even before the recession we had the huge infrastructure challenges of 2008, with the triple whammy of load-shedding, high interest rates and high fuel costs. Already then SMEs were tightening their belts. When the recession hit in 2009, they had to diversify their target markets in order to survive, and a high proportion did just that. The result is that a very high proportion of SMEs are profitable today, but many of these are "just profitable" and a fair proportion of SMEs are only breaking even, meaning that they are constantly on the edge of failure."

New solutions were needed to familiar problems, particularly that of cash flow management. Soon a shift was underway among the most entrepreneurial owners as they moved from short-term cost cutting, to longer term cost optimisation measures. Many of these reflected a new maturity, combining excellent entrepreneurial thinking with a more strategic approach to cost control - a phenomenon rarely seen in 2009.

Best practice

A number of these measures could qualify as best industry practice if implemented in response to specific business needs.

Particularly in the area of IT, we noticed cost optimisation initiatives among leading SMEs which the broader community would do well to consider in 2011. Examples follow, but it is - above all - important to know that there is no "silver bullet" for cost optimisation: all measures must be carefully evaluated to ensure a return within your unique business context.

1. Transition to voice over IP protocol (VoIP): VoIP is a technology that allows users to place voice calls over data lines to reduce line fees and usage costs. Savings are realised when the SME has multiple branches because, instead of paying for distance calls, calls are routed over existing inter-branch links at local rates. An analysis of call costs is needed to justify VoIP investments, but significant savings are being realised with VoIP so if you're not considering it already, do so in 2011.

2. Extend hardware upgrade cycles: A large number of SMEs are locked into fixed replacement cycles for IT assets: three years for laptops, four years for desktops, five years for servers, and so on. Some cycles are necessary as they are based on failure rates and maintenance costs. Others may not be necessary, and in such cases replacement delays will do much to protect cash flow (if use continues after full depreciation or after lease buyout, to eliminate monthly fees). In 2010, leading SMEs also used deferrals strategically to push capital expenses out to more convenient business periods. Business owners interested in adopting this measure must, however, be fully informed about all its consequences. Reliability and security may be compromised, hardware costs may increase, the business may be unable to take advantage of new software releases and deferrals are not permanent savings. Deferrals do, however, stand SMEs in excellent stead when cash flow is under threat and careful planning is needed to safeguard the business.

3. Server storage and virtualisation: Without virtualisation, the provisioning of server hardware typically allows for peak usage, and so the actual server utilisation may be as low as 20%. Utilisation of the excess capacity can be a major source of savings, while indirect savings can extend to software and electricity costs as well as IT management time.

However, because provisioning servers becomes so easy with virtualisation, companies must be cautious to avoid the inevitable proliferation of servers, also known as "server sprawl", as this can soon become an IT management headache.

4. Selective outsourcing: involves the transfer of certain IT functions to external service providers. In 2010, leading SMEs proved that a well considered spread of partners can complement internal resources very effectively. During the year, innovative services also became available from some providers to help guide IT strategy and technology decisions in the absence of full time experts. Many excellent service providers exist, but owners must select the right partners for their business. In addition, while outsourcing may affect savings, savings from outsourcing are by no means guaranteed.

For this reason executives must consider this measure carefully and rely on expert advice where needed.

5. Minimum IT investment requirements: In line with the longer term approach to cost optimisation is the proactive investments fast-moving SMEs are making in the areas of IT backup and disaster recovery - a practice others might want to follow in 2011. Reasons include:

(i) Backup: at the very least, a reliable backup solution is needed to ensure that the business always has efficient access to data from as far back as is needed - either by law, or as determined by the company's needs.

(ii) Disaster recovery: companies for which IT is critical are increasingly making provision for redundancy to guard against the cost involved in downtime. These include productivity losses, unsatisfied customers due to an inability to respond, the overtime involved in catching up lost work and the actual costs of finding and repairing the faults.

The strategic shift from cost cutting to cost optimisation delivered handsome rewards for leading SMEs in 2010. Should you decide to pursue similar benefits, remember to make informed decisions - if necessary, get outside help - and to focus on the right measures for your specific business needs.

Reference (page 1, first paragraph)

* The most widely used measure of entrepreneurship is the TEA (Total Entrepreneurial Activity) Index. It measures entrepreneurial activity by looking at the percentage of the active population, people between 25 and 64, who are entrepreneurs in any given country. South Africa's TEA in 2008 stood at 7,8%, which is greater than it was in 2006 (5%) but still lower than India-Brazil (11,5% - 12%), Colombia (24,5%), Mexico (13,1%) and even the United States1 (10,8%). However in 2009, following the economic crisis, the level of early-stage entrepreneurial activity in South Africa dropped again to just over 5%.

The Entrepreneurial Dialogues: The State of Entrepreneurship in South Africa, 18 March 2010. Full report available upon request. Email Chris Welham az.oc.tas@sirhc.