Chapter 12 Managing Cash Flow

Managing
Cash Flow
Chapter 12: Cash Mgt Copyright 2008 Prentice Hall Publishing Company 1
Cash Management
 Common cause of business failure:
Cash crisis!
 A business can be earning a profit
and be forced to close because it
runs out of cash!
 NFIB study:
 67 percent of small business owners
have at least occasional problems
managing cash flow.
 19 percent report cash flow as a
continuing problem.
Cash Management
 Cash management – forecasting,
collecting, disbursing, investing, and
planning for the cash a company needs
to operate smoothly.
 Young, growing companies are “cash
sponges.”
 Know your company’s cash flow cycle.
The Cash Flow Cycle
Deliver
Goods
Order Receive Pay Sell Send Customer
Goods Goods Invoice Goods* Invoice Pays**
Day 1 15 40 218 221 230 280
14 25 178 3 9 50
Cash Flow Cycle = 240 days
* Based on Average Inventory Turnover: ** Based on Average Collection Period:
365 days = 178 days 365 days = 50 days

2.05 times/year 7.31 times/year
Five Cash Management Roles of
an Entrepreneur
 Cash Finder
 Cash Planner
 Cash Distributor
 Cash Collector
 Cash Conserver
Cash Flow
Increase in Cash Decrease in Cash
Cash
Leakage
Accounts Receivable Accounts Payable
Cash Sales Production/Cash Purchases
Inventory
Leakage
The Cash Budget
 A “cash map,” showing the amount
and the timing of a firm's cash
receipts and cash disbursements over
time.
 Predicts the amount of cash a
company will need to operate
smoothly.
 A helpful tool for visualizing the
firm's cash receipts and cash
disbursements and the resulting cash
balance.
Preparing a Cash
Budget
 Determine a Minimum Cash
Balance
 Forecast Sales
 Forecast Cash Receipts
 Forecast Cash Disbursements
 Estimate End-of-Month Cash
Balance
Determine a Minimum
Cash Balance
 Remember Goldilocks, the
Three Bears, and the
porridge:
Not too much...
 not too little...
 but a cash balance that's just

right ... for you!
Forecast Sales
 The heart of the cash budget.
 Sales are ultimately transformed into cash
receipts and cash disbursements.
 Cash forecast is only as accurate as the sales
forecast from which it is derived.
 “Lumpy” sales patterns are common.
 15 percent to 18 percent of wine and spirits shops’
annual sales occur between December 15 and 31.
 40 percent of toy sales take place in last 6 weeks of
the year.
Forecast Sales
 Prepare three sales forecasts:
 Most Likely
 Pessimistic
 Optimistic
Sales Forecast for a Start-Up
Example:
Number of cars in trading zone 84,000
x Percent of imports x 24%
= Number of imported cars in trading zone 20,160
Number of imports in trading zone

20,160
x Average expenditure on repairs x $485
= Total import repair sales potential $9,777,600
Total import repair sales potential $9,777,600

x Estimated market share x 9.9%
= Sales estimate $967,982
Causes of Cash Flow Problems in Small Businesses
Difficulty collecting accounts 29.7%

receivable
22.8%
Seasonal sales patterns
15.4%
Unexpected variations in sales
13.1%
Weak sales
0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0%

P ercent of Small Businesses
Forecast Cash Receipts
 Record all cash receipts when actually
received (i.e., the cash method of
accounting).
 Determine the collection pattern for
credit sales; then add cash sales.
 Monitor closely slow and nonpayers.
Forecast Cash Disbursements
 Record disbursements when you expect to
make them.
 Start with those disbursements that are fixed
amounts due on certain dates.
 Review the business checkbook to ensure
accurate estimates.
 Add a cushion to the estimate to account for
“Murphy’s Law.”
 Don’t know where to begin? Try making a
daily list of the items that generate cash and
those that consume it.
Estimate End-of-
Month Balance
 Take Beginning Cash Balance...

 Add Cash Receipts...
 Subtract Cash Disbursements
 Result is Cash Surplus or Cash Shortage
(Repay or Borrow?)
Benefits of Cash Management
 Increase amount and speed of cash flowing into
the company
 Reduce the amount and speed of cash flowing out
 Make the most efficient use of available cash
 Take advantage of money-saving opportunities
such as cash discounts
 Finance seasonal business needs
Benefits of Cash Management
 Develop a sound borrowing and repayment
program
 Impress lenders and investors
 Reduce borrowing costs by borrowing only when
necessary
 Provide funds for expansion
 Plan for investing surplus cash
The “Big Three” of
Cash Management
 Accounts Receivable
 Accounts Payable
 Inventory
Accounts Receivable
 About 90 percent of industrial and wholesale
sales are on credit, and 40 percent of retail sales
are on account.
 Survey of small companies across a variety of
industries found that 77 percent extend credit to
their customers.
 Remember: “A sale is not a sale until you collect
the money.”
 The goal with accounts receivable is to collect
your company’s cash as fast as you can.
Beating the Cash Crisis
Accounts Receivable
 Establish a firm credit-granting
policy.
 Screen credit customers carefully.
 When an account becomes overdue,
take action immediately.
 Add finance charges to overdue
accounts (check the law first!).
 Develop a system of collecting
accounts.
 Send invoices promptly.
Accelerating Accounts Receivable
 Ask customers to fax or e-mail
orders
 Send invoices when goods are
shipped
 Highlight the due date on invoices
 Restrict customers’ credit until past-
due bills are paid
 Deposit checks and credit card
receipts daily
Accelerating Accounts Receivable
 Identify the top 20 percent of your
customers and monitor them
closely
 Ask customers for up-front
payments
 Watch for signs that a customer
may be about to declare bankruptcy
 Consider using a lockbox service
 Track the results of your company’s
collection efforts
Accounts Payable
 Stretch out payment times as long as

possible without damaging your credit
rating.
 Verify all invoices before paying them.
 Take advantage of cash discounts.
The Cost of Forgoing a Cash Discount
$1,000 invoice 2/10, net 30
$20
Amount $980 $1,000
Day 0 10 30
20 days
I $20
R = = = 36.7%
PxT $980 x 20/360
Accounts Payable
 Negotiate the best possible terms with

your suppliers.
 Be honest with creditors; avoid the “the
check is in the mail” syndrome.
 Schedule controllable cash disbursements
to come due at different times.
 Use credit cards wisely.
Inventory
 Monitor it closely; it can drain a
company’s cash.
 Avoid inventory “overbuying.” It
ties up valuable cash at a zero rate
of return.
 Arrange for inventory deliveries at
the latest possible date.
 Negotiate quantity discounts
with suppliers when possible.
Coping with a Cash Crunch
Tactics Used by Small Businesses
30% 28%
Percentage of Small Business Using
25%
20% 18% 18%
15% 12%
11%
10%
4%
5%
0%
Investing personal Postponing Obtaining a line of Using a credit card Using a short-term Leasing rather than
or private funds purchases credit loan purchasing
Tactic
Avoiding the Cash Crunch
 Consider bartering, exchanging goods and
services for other goods and services, to
conserve cash.
 Trim overhead costs. For example:
 Ask for discounts and “freebies”
 Periodically evaluate expenses
 Lease rather than buy
 Avoid nonessential cash outlays
 Negotiate fixed loan payments to coincide with your
company’s cash flow
(Continued)
 Trim overhead costs. For example:

 Buy used equipment
 Hire part-time employees and freelancers
 Outsource nonessential activities
 Control employee advances and loans
 Establish an internal security and control system
 Devise a method for fighting check fraud
 Change shipping terms
 Start selling gift cards
 Switch to zero-based budgeting
(Continued)
 Be on the lookout for employee theft

 Keep your business plan current
 Invest surplus cash

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Managing

Day 1 15 40 218 221 230 280

Cash Flow Cycle = 240 days

* Based on Average Inventory Turnover: ** Based on Average Collection Period:

365 days = 178 days 365 days = 50 days

Accounts Receivable Accounts Payable

Cash Sales Production/Cash Purchases

 but a cash balance that's just

Number of imports in trading zone

Total import repair sales potential $9,777,600

Difficulty collecting accounts 29.7%

0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0%

 Take Beginning Cash Balance...

 Stretch out payment times as long as

 Negotiate the best possible terms with

20% 18% 18%

 Trim overhead costs. For example:

 Be on the lookout for employee theft

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