Cash Management

Cash management is the optimum utilization of cash for ensuring liquidity and profitability and includes proper collection, investment, and cash disbursement. Cash is the primary asset used by companies to settle their obligations regularly.

Cash flow management is tracking the inflow and outflow of cash in the business. The Cash flow statement is the primary tool to ascertain cash flow management. It includes cash received and paid during business operations and for investing and financing activities.

Cash management is one of the most crucial affairs that firms need to take care of. Having cash reserves is always an added benefit for any organization. Hence, professionals have to keep track of the cash inflows and outflows happening to and from the organization from time to time. In addition, they must be careful with the utilization of the cash funds for various purposes, avoiding misuse of the same. As a result, when a need arises, funds are ready to be used.

Insufficient cash would mean delayed bill payments and postponement of stuff that might have been necessary, otherwise. This, in turn, affects the overall reputation of the business. Hence, managing cash to ensure no delays in the payment of bills or fulfillment of other financial requirements.

Cash management is the key component for managing smooth business operations.

A cash flow statement is a tool that helps in ascertaining cash flow management. Every organization prepares this to keep track of the cash coming in, going out, and being utilized.

The basic objective of cash flow management is to strike a balance between liquidity and profitability.

Managing cash is, of course, an important function of any organization, but to achieve it effectively, it is important to follow certain methods. Listed below are the techniques or strategies that firms can adopt to ensure cash management is properly carried out. Let us have a look at them below:

• Creation of a cash flow statement where all the incoming and outgoing cash. This statement helps set a budget for future requirements and also identifies any financial issues that may be enhanced. Monthly analysis of the cash flow statement allows for keeping track of the business’ cash status.
• Having a cash flow history is recommended. It becomes the ready reference to figure out which part of the year marks the most critical situation in terms of cash reserves.
• Preparation of a document, listing the cash flow requirements of a business. This helps organize the cash for best utilization.
• Having a look at the statements and documents allows firms to identify the loopholes in the system that delay the cash inflow or outflow. Detecting the issues helps organizations streamline the procedures and make sure the activities are performed timely and in order.

Let us consider the following examples to understand the concept and companies ensure it is achieved:

Example #1

A computer manufacturing company, Abc Limited, uses supplier Alpha & Co. to purchase raw materials. Alpha & Co. has the policy of allowing credit of 30-days. Abc limited has $10 million in cash resources available and has to pay $2 million to Alpha & Co. after the 30-day period. However, after the 30-day period, it has an investment opportunity of $10 million.

Suppose the company can renegotiate its terms with suppliers allowing more periods. In that case, the delay in payment will allow the company to use cash in the investment and then pay off the amount to Alpha & Co. at a later date from cash generated from other sources. Thus, proper cash management can take investment opportunities and maintain business operations.

Example #2

A Company has 120 days of inventory and receivables are due in 60 days. The payable terms are 30 days. The company will face a cash crunch as the funds are blocked in debtors and inventory, and the payables are due in a lesser period.

To manage the cash prudently, the company should either speed up the realization of inventory or debtors; or renegotiate the payment terms with creditors. If the company fails to do so, it would need to borrow funds to fill the deficit.

Example #3

Beta limited has the policy to pay off its creditors in 60 days and gives its customers a credit period of 30 days. Also, it doesn't hold an inventory of more than ten days. How should the company manage cash flows?

Since the payment is made in 60 days and realization is made for debtors and inventory in 40 days, there is idle cash for 20 days. To optimally utilize the same, the company should find an opportunity to invest and maximize profitability.

The company should ensure the sufficiency of cash to meet the current obligations and ensure there is no underutilization of funds. It has to strike a balance between liquidity and profitability. Also, businesses depend majorly on debtors, and if a debt turns bad, it can impact the cash flows. Therefore, they also help in determining enough provisions for contingencies.

Cash management helps organizations have reserves for the needs that may be regular or urgent. However, there are certain limitations as well that must be known to firms.

Let us have a look at the set of benefits and limitations of cash management:

Pros

• It is very time-consuming and requires specific skills.
• It helps in planning for capital expenditure.
• Enables to take advantage of opportunities by using idle cash.
• Facilitates investments;
• Preparing the business for unexpected outflows;

Cons

• It is very time-consuming and requires specific skills.
• It increases administrative and consultation charges for the experts hired to perform cash management.
• Lack of resources and risk-taking ability of the company.

This has been a guide to what is Cash Management. Here, we explain it with its objectives, importance, methods, examples, advantages & disadvantages. You can learn more about accounting from the following articles –

• Cost Management Definition
• Credit Period Definition
• Cash Flow from Operations Ratio
• Cash Flow from Investing Activities