1. Copyright 2008 Prentice Hall Publishing Company 1 Chapter 12: Cash Mgt Managing Cash Flow

2. Copyright 2008 Prentice Hall Publishing Company 2 Chapter 12: Cash Mgt Cash Management Common cause of business failure: Cash crisis! 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! A business can be earning a profit and be forced to close because it runs out of cash! NFIB study: NFIB study: 67 percent of small business owners have at least occasional problems managing cash flow. 67 percent of small business owners have at least occasional problems managing cash flow. 19 percent report cash flow as a continuing problem. 19 percent report cash flow as a continuing problem.

3. Copyright 2008 Prentice Hall Publishing Company 3 Chapter 12: Cash Mgt Cash Management Cash management – forecasting, collecting, disbursing, investing, and planning for the cash a company needs to operate smoothly. Cash management – forecasting, collecting, disbursing, investing, and planning for the cash a company needs to operate smoothly. Young, growing companies are “cash sponges.” Young, growing companies are “cash sponges.” Know your company’s cash flow cycle. Know your company’s cash flow cycle.

4. The Cash Flow Cycle OrderGoods Day1 ReceiveGoods 15 PayInvoice 40 1425 218 178 SellGoods* DeliverGoods 221 3 CustomerPays** SendInvoice 230 9 280 50 Cash Flow Cycle = 240 days * Based on Average Inventory Turnover: 365 days = 178 days 365 days = 178 days 2.05 times/year 2.05 times/year ** Based on Average Collection Period: 365 days = 50 days 365 days = 50 days 7.31 times/year 7.31 times/year

5. Copyright 2008 Prentice Hall Publishing Company 5 Chapter 12: Cash Mgt Five Cash Management Roles of an Entrepreneur Cash Finder Cash Finder Cash Planner Cash Planner Cash Distributor Cash Distributor Cash Collector Cash Collector Cash Conserver Cash Conserver

6. Cash Flow Cash Accounts Payable Decrease in Cash Production/Cash Purchases Inventory Accounts Receivable Cash Sales Increase in Cash Leakage Leakage

7. Copyright 2008 Prentice Hall Publishing Company 7 Chapter 12: Cash Mgt The Cash Budget A “cash map,” showing the amount and the timing of a firm's cash receipts and cash disbursements over time. 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. 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. A helpful tool for visualizing the firm's cash receipts and cash disbursements and the resulting cash balance.

8. Copyright 2008 Prentice Hall Publishing Company 8 Chapter 12: Cash Mgt Preparing a Cash Budget Determine a Minimum Cash Balance Determine a Minimum Cash Balance Forecast Sales Forecast Sales Forecast Cash Receipts Forecast Cash Receipts Forecast Cash Disbursements Forecast Cash Disbursements Estimate End-of-Month Cash Balance Estimate End-of-Month Cash Balance

9. Copyright 2008 Prentice Hall Publishing Company 9 Chapter 12: Cash Mgt Remember Goldilocks, the Three Bears, and the porridge: Remember Goldilocks, the Three Bears, and the porridge: Determine a Minimum Cash Balance Not too much... Not too much... not too little... not too little... but a cash balance that's just right... for you! but a cash balance that's just right... for you!

10. Copyright 2008 Prentice Hall Publishing Company 10 Chapter 12: Cash Mgt The heart of the cash budget. The heart of the cash budget. Sales are ultimately transformed into cash receipts and cash disbursements. 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. Cash forecast is only as accurate as the sales forecast from which it is derived. “Lumpy” sales patterns are common. “Lumpy” sales patterns are common. 15 percent to 18 percent of wine and spirits shops’ annual sales occur between December 15 and 31. 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. 40 percent of toy sales take place in last 6 weeks of the year. Forecast Sales

11. Copyright 2008 Prentice Hall Publishing Company 11 Chapter 12: Cash Mgt Prepare three sales forecasts: Prepare three sales forecasts: Most Likely Most Likely Pessimistic Pessimistic Optimistic Optimistic Forecast Sales

12. Copyright 2008 Prentice Hall Publishing Company 12 Chapter 12: Cash Mgt Sales Forecast for a Start-Up Example: Number of cars in trading zone 84,000 x Percent of imports x 24% 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 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% x Estimated market share x 9.9% = Sales estimate $967,982

14. Copyright 2008 Prentice Hall Publishing Company 14 Chapter 12: Cash Mgt Record all cash receipts when actually received (i.e., the cash method of accounting). 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. Determine the collection pattern for credit sales; then add cash sales. Monitor closely slow and nonpayers. Monitor closely slow and nonpayers. Forecast Cash Receipts

16. Copyright 2008 Prentice Hall Publishing Company 16 Chapter 12: Cash Mgt Record disbursements when you expect to make them. Record disbursements when you expect to make them. Start with those disbursements that are fixed amounts due on certain dates. Start with those disbursements that are fixed amounts due on certain dates. Review the business checkbook to ensure accurate estimates. Review the business checkbook to ensure accurate estimates. Add a cushion to the estimate to account for “Murphy’s Law.” 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. Don’t know where to begin? Try making a daily list of the items that generate cash and those that consume it. Forecast Cash Disbursements

17. Copyright 2008 Prentice Hall Publishing Company 17 Chapter 12: Cash Mgt Take Beginning Cash Balance... Take Beginning Cash Balance... Add Cash Receipts... Add Cash Receipts... Subtract Cash Disbursements Subtract Cash Disbursements Result is Cash Surplus or Cash Shortage (Repay or Borrow?) Result is Cash Surplus or Cash Shortage (Repay or Borrow?) Estimate End-of- Month Balance

18. Copyright 2008 Prentice Hall Publishing Company 18 Chapter 12: Cash Mgt Benefits of Cash Management Increase amount and speed of cash flowing into the company Increase amount and speed of cash flowing into the company Reduce the amount and speed of cash flowing out Reduce the amount and speed of cash flowing out Make the most efficient use of available cash Make the most efficient use of available cash Take advantage of money-saving opportunities such as cash discounts Take advantage of money-saving opportunities such as cash discounts Finance seasonal business needs Finance seasonal business needs

19. Copyright 2008 Prentice Hall Publishing Company 19 Chapter 12: Cash Mgt Benefits of Cash Management Develop a sound borrowing and repayment program Develop a sound borrowing and repayment program Impress lenders and investors Impress lenders and investors Reduce borrowing costs by borrowing only when necessary Reduce borrowing costs by borrowing only when necessary Provide funds for expansion Provide funds for expansion Plan for investing surplus cash Plan for investing surplus cash

20. Copyright 2008 Prentice Hall Publishing Company 20 Chapter 12: Cash Mgt The “Big Three” of Cash Management Accounts Receivable Accounts Receivable Accounts Payable Accounts Payable Inventory Inventory

21. Copyright 2008 Prentice Hall Publishing Company 21 Chapter 12: Cash Mgt About 90 percent of industrial and wholesale sales are on credit, and 40 percent of retail sales are on account. 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. 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.” 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. The goal with accounts receivable is to collect your company’s cash as fast as you can. Accounts Receivable

23. Copyright 2008 Prentice Hall Publishing Company 23 Chapter 12: Cash Mgt Establish a firm credit-granting policy. Establish a firm credit-granting policy. Screen credit customers carefully. Screen credit customers carefully. When an account becomes overdue, take action immediately. When an account becomes overdue, take action immediately. Add finance charges to overdue accounts (check the law first!). Add finance charges to overdue accounts (check the law first!). Develop a system of collecting accounts. Develop a system of collecting accounts. Send invoices promptly. Send invoices promptly. Accounts Receivable Beating the Cash Crisis

24. Copyright 2008 Prentice Hall Publishing Company 24 Chapter 12: Cash Mgt Accelerating Accounts Receivable Ask customers to fax or e-mail orders Ask customers to fax or e-mail orders Send invoices when goods are shipped Send invoices when goods are shipped Highlight the due date on invoices Highlight the due date on invoices Restrict customers’ credit until past- due bills are paid Restrict customers’ credit until past- due bills are paid Deposit checks and credit card receipts daily Deposit checks and credit card receipts daily

25. Copyright 2008 Prentice Hall Publishing Company 25 Chapter 12: Cash Mgt Accelerating Accounts Receivable Identify the top 20 percent of your customers and monitor them closely Identify the top 20 percent of your customers and monitor them closely Ask customers for up-front payments Ask customers for up-front payments Watch for signs that a customer may be about to declare bankruptcy Watch for signs that a customer may be about to declare bankruptcy Consider using a lockbox service Consider using a lockbox service Track the results of your company’s collection efforts Track the results of your company’s collection efforts

26. Copyright 2008 Prentice Hall Publishing Company 26 Chapter 12: Cash Mgt Stretch out payment times as long as possible without damaging your credit rating. Stretch out payment times as long as possible without damaging your credit rating. Verify all invoices before paying them. Verify all invoices before paying them. Take advantage of cash discounts. Take advantage of cash discounts. Accounts Payable Beating the Cash Crisis

27. The Cost of Forgoing a Cash Discount $1,000 invoice 2/10, net 30 Day Amount 0 10 30 $1,000$980 20 days $20 R = I P x T = $20 $980 x 20/360 = 36.7%

28. Copyright 2008 Prentice Hall Publishing Company 28 Chapter 12: Cash Mgt Negotiate the best possible terms with your suppliers. Negotiate the best possible terms with your suppliers. Be honest with creditors; avoid the “the check is in the mail” syndrome. Be honest with creditors; avoid the “the check is in the mail” syndrome. Schedule controllable cash disbursements to come due at different times. Schedule controllable cash disbursements to come due at different times. Use credit cards wisely. Use credit cards wisely. Accounts Payable Beating the Cash Crisis

29. Copyright 2008 Prentice Hall Publishing Company 29 Chapter 12: Cash Mgt Monitor it closely; it can drain a company’s cash. Monitor it closely; it can drain a company’s cash. Avoid inventory “overbuying.” It ties up valuable cash at a zero rate of return. Avoid inventory “overbuying.” It ties up valuable cash at a zero rate of return. Arrange for inventory deliveries at the latest possible date. Arrange for inventory deliveries at the latest possible date. Negotiate quantity discounts with suppliers when possible. Negotiate quantity discounts with suppliers when possible. Inventory Beating the Cash Crisis

31. Copyright 2008 Prentice Hall Publishing Company 31 Chapter 12: Cash Mgt Avoiding the Cash Crunch Consider bartering, exchanging goods and services for other goods and services, to conserve cash. Consider bartering, exchanging goods and services for other goods and services, to conserve cash. Trim overhead costs. For example: Trim overhead costs. For example: Ask for discounts and “freebies” Ask for discounts and “freebies” Periodically evaluate expenses Periodically evaluate expenses Lease rather than buy Lease rather than buy Avoid nonessential cash outlays Avoid nonessential cash outlays Negotiate fixed loan payments to coincide with your company’s cash flow Negotiate fixed loan payments to coincide with your company’s cash flow

32. Copyright 2008 Prentice Hall Publishing Company 32 Chapter 12: Cash Mgt Avoiding the Cash Crunch Trim overhead costs. For example: Trim overhead costs. For example: Buy used equipment Buy used equipment Hire part-time employees and freelancers Hire part-time employees and freelancers Outsource nonessential activities Outsource nonessential activities Control employee advances and loans Control employee advances and loans Establish an internal security and control system Establish an internal security and control system Devise a method for fighting check fraud Devise a method for fighting check fraud Change shipping terms Change shipping terms Start selling gift cards Start selling gift cards Switch to zero-based budgeting Switch to zero-based budgeting (Continued)

33. Copyright 2008 Prentice Hall Publishing Company 33 Chapter 12: Cash Mgt Avoiding the Cash Crunch Be on the lookout for employee theft Be on the lookout for employee theft Keep your business plan current Keep your business plan current Invest surplus cash Invest surplus cash (Continued)