copyright © 2015 pearson education, inc. publishing as prentice hall 15-1

Copyright © 2015 Pearson Education, Inc. publishing as Prentice Hall. 15-2

Chapter 15

Copyright © 2015 Pearson Education, Inc. publishing as Prentice Hall.

Developing cash forecasts is essential for new businesses

A business can be earning a profit and be forced to close because it runs out of cash!

Managing cash effectively requires looking beyond the bottom line and focusing on what keeps a company going - cash

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Cash management: forecasting, collecting, disbursing, investing, and planning for the cash a company needs to operate smoothly

The SBA recommends that businesses have enough cash on hand to cover at least six months of operating expensesBut, many small businesses do not engage in

cash planningStudy: 68% of small businesses perform no

cash flow analysis at all!

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Cash Flow Challenges


First step in managing cash more effectively:Understanding a company’s cash flow cycle –

the time lag between paying suppliers for merchandise and receiving payment from customers

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The Cash Flow Cycle


Five Cash Management Roles of the Entrepreneur1. Cash Finder2. Cash Planner3. Cash Distributor4. Cash Collector5. Cash Conserver

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Profit: the difference between a company’s total revenue and its total expenses

Cash flow: measures a company’s liquidity and its ability to pay its bills and other financial obligations on time by tracking the flow of cash into and out of the business over a period of time.

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Cash Flow


Cash budget: a “cash map” showing the amount and the timing of a firm's cash receipts and cash disbursements over timePredicts the amount of cash a company will need

to operate smoothlyA helpful tool for visualizing the firm's cash receipts

and cash disbursements and the resulting cash balance

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1. Determine an adequate minimum cash balance

2. Forecast sales3. Forecast cash receipts4. Forecast cash disbursements5. Estimate end-of-month cash balance

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Step 1: Determining an adequate minimum cash balanceThe most reliable method of deciding cash balance is based on past experiences

What is considered an excessive cash balance for one company may be inadequate for another

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Step 2: Forecasting SalesThe heart of the cash budgetSales are ultimately transformed into cash receipts and cash disbursements“Lumpy” sales patterns are common

25% of sales at companies that supply exotic dancers for parties occur on Super Bowl Sunday

Super Bowl Sunday is the single largest revenue-generating day for pizzerias

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Step 2: Forecasting SalesCreate three estimates

1. Most Likely2. Pessimistic3. Optimistic

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Step 3: Forecasting Cash ReceiptsRecord all cash receipts when actually received (i.e., the cash method of accounting)Determine the collection pattern for credit sales; then add cash salesElectronic (Automated Clearing House, ACH) collectionsRemote deposit

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Probability of Collecting Accounts Receivable


Step 4: Forecasting Cash DisbursementsRecord cash disbursements when you will pay them, NOT when you incur the obligation to pay themStart with those disbursements that are fixed amounts due on certain dates

Add a cushion to account for Murphy's LawDon’t know where to begin?

Try making a daily list of the items that generate cash and those that consume it

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Step 5: Estimating the End-of-Month Cash BalanceTake Beginning Cash Balance...Add Cash Receipts...Subtract Cash DisbursementsResult Is Cash Surplus or Cash Shortage (Repay or Borrow?)

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By planning cash needs ahead of time, a company can: Increase amount and speed of cash flowing inReduce the amount and speed of cash flowing outDevelop a sound borrowing and repayment programImpress lenders and investorsReduce borrowing costs by borrowing only when

necessary

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Take advantage of money-saving opportunities such as cash discounts

Make the most efficient use of available cashFinance seasonal business needsProvide funds for expansionPlan for investing surplus cash

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Accounts ReceivableAccounts PayableInventory

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The Cash Conversion Cycle


Accounts ReceivableSelling on credit is commonBut, “leakages” rob companies of 2% of their sales

each yearHealth care and Web service providers typically

lose 5 -10% of their revenues each year Remember: “A sale is not a sale until you collect the

money”The goal is to collect your company’s cash as fast as you can

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How to establish a credit and collection policyScreen credit customers carefullyEstablish and communicate a firm written credit

policySend invoices promptly

Cycle billingWhen an account becomes overdue, take action

immediatelyAbide by Fair Debt Collection Practices Act

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Techniques for Accelerating Accounts ReceivableAsk customers to fax or e-mail ordersSend invoices when goods are shippedHighlight the due date on invoices Restrict customers’ credit until past-due bills are paidDeposit checks and credit card receipts dailyIdentify the top 20% of your customers and monitor

themAsk customers for up-front paymentsWatch for signs that a customer may be about to

declare bankruptcyConsider using a lockbox serviceTrack the results of your company’s collection efforts

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Accounts PayableStretch out payment times as long as possibleBut keep in mind that:

1. Developing good relationships with suppliers ensures they will provide good service

Having the goodwill of suppliers can make the call to let them know that you may be late with your payment this month a lot easier on both ends

Many suppliers offer or are willing to negotiate discounts for quick payment

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4. When an entrepreneur strives to stretch out payables too long, there is a serious risk of damaging the company’s credit rating

5. Consider the ethical dimension; you expect prompt payment from your customers, so isn’t it right to pay your suppliers promptly as well

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Apple Inc.’s Cash Conversion Cycle


Verify all invoices before paying them Take advantage of cash discounts (e.g., “2/10,

net 30”) 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

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Inventory Monitor inventory closely

It can drain a company's cash Avoid inventory overbuying

It ties up valuable cash at a zero rate of return

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Mark down items that aren’t sellingSchedule inventory deliveries at the latest

possible dateNegotiate quantity discounts with suppliers when

possibleConsider suppliers that can make fast, frequent

deliveries

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Bootstrapping and the Breakeven Point


Four basic rules for effective bootstrapping:1. Overhead matters2. Employee costs are the single biggest

recurring cost3. Reduce operating costs4. Marketing matters, but know your customers

and where they go for information

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Bootstrapping OverheadBuy used or reconditioned equipment,

especially if it is “behind the scenes” machineryWhen practical, lease instead of buyAvoid nonessential outlaysNegotiate fixed loan payments to coincide with

your company’s cash flowDo it yourself

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Bootstrapping Employee CostsHire part-time employees and freelancersOutsource

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Bootstrapping Operating CostsUse e-mail or faxes rather than mailLook for simple ways to cut costs

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Other Tools for Bootstrapping and Preserving CostsBarterUse credit cards to make small purchasesEstablish an internal security and control systemDevelop a system to battle check fraudChange your shipping termsStart selling gift cardsInvest surplus cash

Money market accountZero surplus account (ZBA)Sweep account

Be on the lookout for employee theft

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copyright © 2015 pearson education, inc. publishing as prentice hall 15-1

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