Tips for Cash-Hog Corporation

[Snaggletooth]

What I call a "Cash Hog" is a business that requires a significant amount of cash outlay to operate, yet these cash outlays are not deductible.

I would like advice, or at least discussion, as to how to take a chunk out of the tax bill of a cash-hog C corp I am working with.

In its first year, corp has made $250K in profits, but has built up $235K in inventory, and another $40K in receivables. Hasn't borrowed any money except from the owner, and has a few accts payables and other accrued liabilities. And only $10K left in cash at year-end.

We know we can create a small reserve for bad debts, and scour his inventory for slow-moving items and write them down. But this is only going to reduce profits by a small amount.

Any idears?

[BHoffman]

Sounds like all of their cash is tied up in inventory - and that is not good. I'd probably be focusing on that and making sure their gross profit margin looks reasonable. Maybe they aren't properly moving costs from inventory to COGS on the books. Did they take a physical count and cost it out at year end?

[Snaggletooth]

Discrete Elements

Thanks for responding. Their inventory is in large, discrete elements, not fungible, and easily countable, only 21 items. Being as they are individually identifiable, LIFO is not an option (although that doesn't help much nowadays). The only hope I have is to find some of these items that are not moving and devalue them accordingly.

[BOB W]

As part of the inventory review you should look at their inventory "turnover" rate. I have found that many businesses over buy (salesman pushing) for a better discount, only to become cash poor. Staying in business is more important than running out of cash.

Being in an "overstocked" posistion and cash poor can cause deep discounted sales just to get cash back and then owners do it all over again and again. Check their Gross Profit % and Turnover rate.

Buying in smaller quanties and spread out over shorter buying periods allow new sales to cover the costs of new purchases.

[BHoffman]

Thanks for responding. Their inventory is in large, discrete elements, not fungible, and easily countable, only 21 items. Being as they are individually identifiable, LIFO is not an option (although that doesn't help much nowadays). The only hope I have is to find some of these items that are not moving and devalue them accordingly.

Sounds like a used car dealership. That inventory number seems fishy. I'd be wanting to take a physical count after hours on 06/30 myself and cost it out myself, and I would keep that secret from the employees because I'd be looking for theft. For the low, low fee of around $1,200. Today and today only

Agree with Bob that their inventory turnover rate isn't being managed well. Inventory is dead money that just sits there and collects dust.

If the client just wants a low tax bill and doesn't care why he has profit and no money then he might be outta luck there because you can't make his profits just go away with magic, and he is circling the drain in the longer term anyway.

You might also see if the owner is repaying the loans he made to the company too quickly and leaving his company cash poor.

You might also prepare a statement of cash flows to show the owner where his money is going, although it sure looks like it's sitting there in inventory that is not moving. Why isn't it moving? Overpriced? Lack of a marketing strategy? Is he selling liver pot-pies that no one wants? Location?

[BOB W]

[QUOTE=Snaggletooth;104591]What I call a "Cash Hog" is a business that requires a significant amount of cash outlay to operate, yet these cash outlays are not deductible.


In its first year, corp has made $250K in profits, but has built up $235K in inventory, and another $40K in receivables. Hasn't borrowed any money except from the owner, and has a few accts payables and other accrued liabilities. And only $10K left in cash at year-end.
QUOTE]

When building an inventory with profits and small loans, cash flow will suffer. Lets hope that inventory building is over. Next year should produce cash flow for other needs.

I have run across clients that, come the end of the year, they think that spending all their money on inventory will save them on taxes. Only later to find out that inventory purchases does nothing to their bottom line.

See if your client understands how inventory gets expensed........................

[Snaggletooth]

Cash Management

The answers I've got from the group are as I feared.

There is little tax manuevering that can be done if the profits really exist and the earnings are tied up in the balance sheet and unavailable to generate cash to pay the taxes.

There are, however, cash management alternatives. Wise use of low-cost credit. Manage a "cap" on allowing inventories to get bloated, etc.

What I was hoping for was perhaps the selection of a hybrid cash method which would allow us to deduct part of the inventory investment. I never heard of one, but that doesn't mean there isn't one out there somewhere.

[BOB W]

The answers I've got from the group are as I feared.

There is little tax manuevering that can be done if the profits really exist and the earnings are tied up in the balance sheet and unavailable to generate cash to pay the taxes.

There are, however, cash management alternatives. Wise use of low-cost credit. Manage a "cap" on allowing inventories to get bloated, etc.

What I was hoping for was perhaps the selection of a hybrid cash method which would allow us to deduct part of the inventory investment. I never heard of one, but that doesn't mean there isn't one out there somewhere.

Hybrid only means the you use "cash method" for other than COS. Full accrual allows unpaid expenses to be expensed, a better choice for your client.

Did you say he owes $80,000 for non COS expenses??????