A company is like a human

By Shane Shin

A company operates and lives like a human being. Cash flow, like breathing, is essential to any business and it must happen at regular and automated intervals. As is breathing to humans, so is the timing of cash flow for businesses.

Question: Assume that Company A and Company B generate revenue of $1mm per year with all other determining factors kept constant (sector, customer retention, cost, etc..). Within a year, Company B has filed for bankruptcy, while Company A continues to operate comfortably. Can you guess how this could have happened?

Answer: The timing of the cash flow.

Quick backstory: Company A makes $83k monthly recurring revenue (MRR), whereas Company B receives whooping $1mm revenue at once. Which one is healthier? While the $1mm contract generates greater PR and may make a company seem externally healthier, but in reality, Company A’s MRR is far healthier for the business’ bottom line.

Nobody argues the importance of recurring revenue, but what makes it so vital to a company’s survival? Why should the recurring revenue be valued more than the one-time revenue? If we were to picture businesses today like the crops of yesteryear, it is analogous to how you need consistent rainfall throughout the season rather than one huge flood to yield any crop (to visualize, if you need 1,000mm of rain to harvest, you cannot yield any crop if the whole 1,000mm come in one week). It is the exact reason why such SAAS revenue models are valued higher than one time business services.

The vitality lies in two core business needs – projection and prediction. Company A is better able to predict its future stream of cash flow and use these projections to utilize their cash cycle to save, invest and ultimately grow.

Because the Company can manage its working capital and expenses accordingly with such predictability. So, although it’s the same $1mm revenue, “quality” of the revenue is drastically different for Company A. 

At Shorooq Partners, we meet and diligence thousands of startups and founders each year. Some of them are amazing at strategy, some great at marketing, some great at product, but still only a select few truly understand the importance of cash cycle and working capital management that comes with it. We have learned from our own mistakes as well; some of the best companies we have been fortunate to back still cite timing of the cash flow as their single greatest risk during our signature “WHAT CAN KILL US?” board brainstorming sessions. When this happens, we at Shorooq Partners put on our money management hats and try to find a solution asap. 

This is why sometimes we prefer to invest in companies that might have much lower revenue in the headlines than other competitors – it is because we have looked at their revenue profile and judged them as higher quality, and thus healthier business to invest and grow. This is the bedrock of Shorooq Partners’ sustainable long-term investment strategy, which we hope will carry us and our partners to success over the next 40 years.

If you find yourself in this situation, there are a few solutions: build recurring revenue vs. one-time; shorten the accounts receivable and accounts payable cycles; find factoring or secure credit facilities – which although painfully difficult, is still not impossible, and we have been helping our portfolio companies secure this from within the region and outside. Alas, the most coveted scenario would be to have a revenue model with “negative” working capital so you receive cash from the customers before paying to the suppliers, but one can only dream and say the all too familiar “Insha ‘Allah.” A great example of such negative working capital is Airbnb which receives money from its customers months in advance and then release its payment to the host when the transaction has finally been completed.

I learned from my Partner’s 9-year-old daughter that if somebody is drowning in water for 10 minutes, it is those 10 minutes that are crucial, not the fact that he is able to breathe before or after those crucial moments. The same is true for companies; they live and breathe like individuals - they need to breathe (generate revenue) regularly vs. trying to breathe all at once. It is those moments under water that a company comes to appreciate the timing of the cash flow.

We are always interested to meet you so pls reach out with any comments at sshin@shorooq.com or through our website.