Cash Management

A Qualitative Case Study of Two Small Consulting Firms

Bachelors Thesis
Industrial and Financial Management
University of Gothenburg
School of Business, Economics and Law
Spring 2012
Supervisor: Gert Sandahl
Authors Date of Birth
Christoer Bengtsson 890210-5553
Therese Persson 890920-5067
Anton Stigo 860619-4937
Abstract
Title: Cash Management - A Qualitative Case Study of Two Small Consult-
ing Firms
Course: Bachelors Thesis in Business Administration - University of Gothen-
burg, School of Business, Economics and Law
Authors: Anton Stigo, Christroer Bengtsson and Therese Persson
Supervisor: Gert Sandahl
Key Words: Cash management, liquidity, liquidity forecasting, cash inows, cash
outows, SME, consulting
Background and Discussion of the Problem: Cash management is the planning
and management of cash ows. The concept includes forecasting of future cash ows,
investment of surplus cash as well as funding of liquidity needs, and management of cash
ows. The aim is to receive inows as early as possible and to delay outows as long as
possible without causing extra costs. The awareness of cash management has increased
and varies between rms, but there is still room for improvements, especially among
small rms. Studies show that small companies lack both knowledge and awareness of
cash management.
Purpose: The purpose of this thesis is to investigate how small consulting rms ap-
ply cash management practices in their operations and to try to identify the reasons
why they act the way they do. To extend the understanding of how rms utilise cash
management a study on two small consulting rms will be made. Furthermore, the
purpose is to see if there are any possibilities to improve practices in accordance with
cash management theory.
Methodology: A qualitative case study of two small consulting rms based on semi-
structured interviews. Respondents were individuals with responsibilities in the cash
management function of the companies.
Results: Cash management practices are applied to some extent in the two consulting
rms. When setting the liquidity level the rms make an approximation of what they
think is an appropriate level based on one month of cash outows. Company A places
excess cash in an account that potentially gains a larger return, while Company B keeps
all their cash in their business account. Liquidity forecasting is used to some extent, but
the benet it brings might not be worth the extra eort. The lack of time and resources
and the fact that cash management is not a prioritised matter mean that cash ows
are not managed as eciently as possible in some matters. The extent to which cash
management practices are applied diers between the companies.
Contents
1 Introduction 1
1.1 Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1
1.2 Problem Discussion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
1.3 Purpose . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
1.4 Limitations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
2 Methodology 5
2.1 Selection of Method . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
2.2 Primary Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
2.2.1 Literature and Articles . . . . . . . . . . . . . . . . . . . . . . . . 5
2.2.2 Selection of Companies . . . . . . . . . . . . . . . . . . . . . . . 6
2.2.3 Selection of Respondents . . . . . . . . . . . . . . . . . . . . . . . 7
2.2.4 Interviews . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.2.5 Execution of Interviews . . . . . . . . . . . . . . . . . . . . . . . 8
2.3 Validity and Reliability . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
3 Theoretical Framework 9
3.1 An Introduction to Cash Management . . . . . . . . . . . . . . . . . . . 9
3.2 How to Manage Liquidity and Cash Flows . . . . . . . . . . . . . . . . . 10
3.2.1 Managing Liquidity . . . . . . . . . . . . . . . . . . . . . . . . . 10
3.2.2 Inward Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . 13
3.2.3 Outward cash ow . . . . . . . . . . . . . . . . . . . . . . . . . . 16
3.3 Small Business Cash Management Practices . . . . . . . . . . . . . . . . 16
3.3.1 Forecasting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16
3.3.2 Cash Holding . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
3.3.3 The Credit Arrow . . . . . . . . . . . . . . . . . . . . . . . . . . 17
3.3.4 Important Conclusions From Previous Studies . . . . . . . . . . 18
3.4 Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18
4 Empirical Findings 19
4.1 Introduction to Companies . . . . . . . . . . . . . . . . . . . . . . . . . 19
4.1.1 Company A and Their View on Cash Management . . . . . . . . 19
4.1.2 Company B and Their View on Cash Management . . . . . . . . 19
4.2 Managing Liquidity, Company A . . . . . . . . . . . . . . . . . . . . . . 19
4.2.1 How Much Cash Does Company A Hold and Why? . . . . . . . . 19
4.2.2 Financing Decits and Placing Surpluses . . . . . . . . . . . . . 20
4.2.3 Liquidity Forecasting . . . . . . . . . . . . . . . . . . . . . . . . . 20
4.3 Managing Liquidity, Company B . . . . . . . . . . . . . . . . . . . . . . 21
4.3.1 How Much Cash Does Company B Hold and Why? . . . . . . . . 21
4.3.2 Financing Decits and Placing Surpluses . . . . . . . . . . . . . 21
4.3.3 Liquidity forecasting . . . . . . . . . . . . . . . . . . . . . . . . . 22
4.4 Managing Inward Cash Flows, Company A . . . . . . . . . . . . . . . . 22
4.4.1 From Proposal to Order and Delivery . . . . . . . . . . . . . . . 22
4.4.2 Invoice . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
4.4.3 Dunning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 24
4.5 Managing Inward Cash Flows, Company B . . . . . . . . . . . . . . . . 24
4.5.1 From Proposal to Order and Delivery . . . . . . . . . . . . . . . 24
4.5.2 Invoice . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
4.5.3 Dunning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
4.6 Summary of Empirical Findings . . . . . . . . . . . . . . . . . . . . . . . 26
5 Analysis 27
5.1 Liquidity . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
5.1.1 Why Do Companies Hold Cash? . . . . . . . . . . . . . . . . . . 27
5.1.2 How Much Cash Do Companies Hold? . . . . . . . . . . . . . . . 28
5.2 Liquidity Forecasting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29
5.2.1 Do Organisations Establish Liquidity Forecasts? . . . . . . . . . 29
5.2.2 The Timing of Cash Flows . . . . . . . . . . . . . . . . . . . . . 30
5.2.3 Forecasting Short-Term Financing . . . . . . . . . . . . . . . . . 30
5.2.4 Long-Term Financing . . . . . . . . . . . . . . . . . . . . . . . . 31
5.2.5 How Important Is Forecasting? . . . . . . . . . . . . . . . . . . . 31
5.3 Inward Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32
5.3.1 From Proposal to Order and Delivery . . . . . . . . . . . . . . . 32
5.3.2 Invoice . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
5.3.3 Dunning . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35
6 Conclusion 36
6.1 Results . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36
6.2 Reections . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39
6.3 Suggestions for Further Research . . . . . . . . . . . . . . . . . . . . . . 40
References 42
Appendix A - Interview Template 44
1 Introduction
1.1 Background
In perfect market conditions companies are able to borrow money at a fair rate at any
time and are not beneting from holding extra cash as a buer. There would also be
a guarantee that the company can invest money at a fair rate of return. In reality,
this is not the case. Markets are not perfect and holding liquid assets has a cost. The
decision of how much cash to hold diers between companies depending on a number of
factors such as the access to capital markets, risk of the business and potential company
growth (Berk and DeMarzo, 2011). These factors, among other things, are dependent
on industry and rm size. The point is that holding too much cash has a cost, while
holding too little entails risk.
How companies manage their cash ows is an important nancial consideration
for increasing company eciency as well as maximising the wealth of shareholders.
Cash is king is a phrase widely used to express the importance of cash ows in the
overall scal health of companies. Cash is the lifeblood of all business and is required if
companies are going to be able to successfully handle their nancial obligations (Pike,
Neal and Linsley, 2012). This is especially important in times of recession when lending
is constrained. With no cash, companies may not be able to cover current disbursements,
which in turn leads to a greater risk of default. On the other hand, holding too much
cash may constitute an inecient use of resources. Therefore, at the very core of a
successful business lies the ability to manage liquidity and cash ows in an ecient way.
Although several denitions exist, cash management is fundamentally about the
planning and management of cash ows, with the ultimate goal of increasing business
protability. Cooley and Pullen (1979) describe short-term cash management as a eld
consisting of three major components. The rst is concerned with forecasting future
cash ows. This is also known as cash forecasting and serves the purpose of providing
decision makers with information on the timing of cash ows. Knowing the amount of
cash required for each period is essential for being able to meet nancial obligations
as well as making plans for future investments. The second component deals with the
question of how to invest excess cash most eciently. There is always an opportunity
cost to holding cash and simply leaving cash in bank accounts at a low return is not
necessarily the best option. The other side of this is to know how to most eciently raise
capital to meet additional needs of cash. The last element of cash management involves
the control of cash inows and outows. For instance, by controlling administrative
routines companies can streamline processes making them able to settle accounts with
customers and suppliers more eciently, and thus improving the overall liquidity of the
rm.
1
Depending on how wide the denition of cash management is, other activities
such as bank relations and account systems can also be included in the concept. From
a global perspective, activities such as currency management, cash pooling and inter-
national bank account management are also of importance. International business also
oers other cash management challenges, for instance in terms of extended credit oat
and foreign business practices (e.g. Dolfe and Koritz, 1999). This study applies the de-
nition of cash management proposed by Cooley and Pullen (1979) and is only concerned
with cash management issues from a national perspective.
1.2 Problem Discussion
Companies experience dierent liquidity issues depending on the nature of their business
and how rened their cash management routines are. While some companies are highly
liquid other companies may suer from a lack of available funds.
The level of awareness on the potential benets of cash management varies be-
tween dierent companies (Karlsson, 1996). Large rms often have whole departments
taking care of nancial planning and cash management, while this task may be the
responsibility of a single individual at small and medium sized rms. According to
Larsson and Hammarlund (2005) the awareness of cash management among compa-
nies has increased, but there is still room for improvement, especially among small and
medium sized companies. Research by Anvari and Gopal (1983) revealed that Canadian
small-business managers show little understanding of cash management. The companies
in their study also kept relatively large cash balances signifying good opportunities for
a more ecient use of surplus cash. Another study of 122 U.S. petroleum marketers
revealed a rather sophisticated use of cash management procedures, but there was also
room for considerable improvements by relatively simple measures (Cooley and Pullen,
1979).
These ndings are not surprising, since smaller rms both lack the experience
and resources of larger rms. Cooley and Pullen (1979) claim thatF cash management
oers small rms good opportunities for improving company eciency and protability.
According to Bennet (1996), it is not unusual to achieve a reduction of tied up capital
corresponding to 2-3 per cent of company turnover as a result of improved cash manage-
ment practices. Hedman (1991) is somewhat more careful in his estimate, setting this
gure to one per cent of company turnover. Nevertheless, there are certainly potential
gains in giving increased consideration to cash management.
There are several reasons why rms may experience liquidity diculties. The
time dimension of cash ows is one of them and is of particular interest in cash manage-
ment (Larsson, 2005). Expanding and newly established rms often have trouble with
low liquidity due to the time delay occurring between new investments and the inow
2
of cash they generate (Larsson, 2005). Therefore, cash management is especially impor-
tant for newly established and small rms. The time lag between inward and outward
cash ows entails the risk that companies are forced to suspend their payments, which
ultimately may lead to default if short-term nancing cannot be obtained. A lagging
inow of cash also involves an opportunity cost in the shape of lost interest gains. A
large amount of capital is often tied up in processes longer than necessary due to inef-
cient routines and processes (Larsson, 2005). Reviewing and improving these routines
would make it possible for companies to increase the speed of their cash ows, increase
eciency and consequently lower their need of liquidity.
For established rms and rms pursuing slower expansion strategies the liquidity
situation may look dierent. The inow may then be greater than the outow of cash,
favouring them with excess capital (Blomstrand and Kallstrom, 1991). This raises the
questions of how to utilise excess capital most eciently, and what level of cash available
to the rm is appropriate.
During the last decades the industrialised world has experienced an upsurge
within the service industry. In fact, 80 per cent of all newly established rms in Sweden
are in the service industry and it has become common among manufacturers to purchase
services that were previously executed internally (Spak and Wahlstrom, 2007).
Consulting rms are one group of companies providing services. These rms
diers for various reasons. First, they often lack xed assets but are rich in current
assets and human capital. Also, small rms in general are often dependent on debt as
a source of cash (Khan and Rocha, 1982), which usually requires them to oer some
kind of asset collateral. Second, revenues depend heavily on the performance of the
consultants and in order to stay liquid rms must have ecient invoicing and time
reporting routines. However, according to Larsson and Hammarlund (2005) experience
indicates that the invoicing routine of service companies often is less ecient than for
traditional industry.
Over the years a number of cash management studies have been made on com-
panies of dierent sizes and within dierent industries (e.g. Cooley and Pullen, 1979
and Anvari and Gopal, 1983). However, despite an extensive literature search we were
unable to nd any study made on small rms in the consulting industry. Given the low
awareness of cash management in small rms in general and the increased importance
of the service sector the focus of this thesis is on investigating how business managers
of small consulting rms apply cash management practices. The focus will be on identi-
fying liquidity issues that these rms experience and to investigate what the underlying
reasoning of how company managers handle liquidity and cash management issues are.
There is abundant literature explaining what cash management is and how it
can help companies to improve protability and eciency. For instance, Dolfe and
3
Koritz (1999) and Larsson and Hammarlund (2005) provide much advice within the
eld. Nevertheless, research from e. g. Cooley and Pullen (1983) show that there are
considerable opportunities for improvement among small rms.
The question is, whether managers of small consulting rms really act in accor-
dance with theory on cash management or if decisions are made haphazardly. If this is
the case, we are aiming at identifying the reasons why there is a gap between the previ-
ous ndings and our study. We expect this to be connected to how business managers
of small rms make their decisions. In this context it is important to remember that
each rm is unique and managers therefore have dierent room for action.
The potential of giving increased consideration to cash management practices is
far more interesting for inows than for outows of cash. Small consulting rms operate
in the service industry and disbursements are relatively limited to stable and recurrent
costs such as rent, salaries and tax. Cash inows, on the other hand, are the result
of negotiable contract terms, and proper management of accounts receivables holds the
possibility of strongly aecting the overall liquidity of the rm. Therefore, attention will
exclusively be given to how the rms of the study handle their cash inows.
The discussion presented above leads to the following questions:
How do small consulting rms apply cash management practices in their business?
What is the underlying reasoning to why managers of small consulting rms apply
cash management the way they do?
Is there room for improving current practices in accordance with cash management
theory?
1.3 Purpose
Based on the discussion above the purpose of this thesis is to answer the above stated
questions. The purpose of this study is to investigate how small consulting rms apply
cash management practices in their business and to investigate why these rms apply
cash management practices the way they do. To receive detailed information on how
rms utilise cash management a study on two small consulting rms will be made.
Furthermore, the purpose is to see if there is room for improving current practices in
accordance with cash management theory.
1.4 Limitations
It would be interesting to estimate the potential gains the rms in this study could
achieve by improving cash management practices. However, no quantication of these
gains will be made due to constraints of both time and resources. More focus is instead
given to if the rms can improve their cash management routines, and if so how.
4
2 Methodology
2.1 Selection of Method
There are two fundamental scientic approaches available when choosing research method.
A study can be either quantitative or qualitative, but often it is something in between
(Patel and Tebelius, 1987), and the research method must be chosen in line with the
theoretical perspective and the purpose of the study (Trost, 2005). The decision was
made to take a qualitative approach, because the primary focus of this study is to inves-
tigate how small consulting rms apply cash management procedures in their business.
This thesis makes an attempt at explaining the underlying reasoning of the business
managers involved in the study. The qualitative approach facilitates the gathering of
more detailed and specic data required to full this purpose (Patel and Tebelius, 1987).
Interviews are an eective tool for gathering this kind of qualitative data (Trost, 2005).
Interviews also decrease the risk that the respondents misinterpret questions. For these
reasons, the collection of data will be made through qualitative interviews.
To full the purpose of this study the decision was also made to perform a case
study of a number of rms. A case study means examining a few study objects in various
aspects (Eriksson and Wiedersheim-Paul, 2006). The primary advantage of this is that
it makes it possible to study what happens under real circumstances (Wallen, 1993).
Case studies are also especially useful when seeking the answer to questions of how and
why (Blumburg, Cooper and Schindler, 2005). In short, a case study would make it
possible to go in-depth in order to investigate the cash management issues of concern
and to full the purpose of this study.
Knowledge creation can be made in a few dierent ways, either through deduc-
tion, induction or abduction (Patel and Davidson, 2003). This study adopts a deductive
approach to achieve its objectives. This means that theory provides the starting point
for the study and empirical observations are subsequently made to full the purpose.
This is necessary in order to understand the causes behind a possible gap between theory
and practice.
2.2 Primary Data
2.2.1 Literature and Articles
Literature and articles for this study were used as a foundation for the theory section
and were exclusively collected by searching in dierent databases. The library catalog of
the University of Gothenburg (GUNDA) was used for nding relevant literature on cash
management, while scientic articles on the subject were found by using the database
Business Source Premier (EBSCO). The research process included a wide range of jour-
nals and keywords. Attention was especially given to the following three journals due
5
to their focus on small businesses: American Journal of Small Business, International
Small Business Journal and Journal of Small Business Management.
Eort was given to cover as much relevant literature as possible to get a deep
understanding of cash management. Both modern literature, older literature and articles
were studied. However, much of the Swedish literature on cash management is dated.
Books by Dolfe and Koritz (1999) as well as Larsson and Hammarlund (2005) are more
recent examples, and are both comprehensive. Dolfe and Kortiz (1999) on their part
have based part of their work on Karlsson (1996).
Articles published in the eld were also rather old. Studies made specically
concerning cash management practices of small rms are those published by Anvari and
Gopal (1983), Cooley and Pullen (1979) and Grablowsky (1978). However, they were
included in the study due to their high relevance to the subject. Literature and articles
on cash management procedures in small rms within the service industry specically
were not found. This strengthened the reasons to go on with this study. Refer to the
reference section for a complete list of all sources.
2.2.2 Selection of Companies
When selecting the sample of rms to include in the study, the aim was to target a
homogeneous group of companies. The interesting side of a qualitative study is to
examine variations within the selected homogeneous group (Trost, 2005). Since the focus
of the study was to investigate cash management procedures of small consulting rms,
a denition of this group of companies was required. The European Commission oers
a standardised approach to dene this group of companies, where the main determining
factors are the number of employees and turnover or balance sheet total. Table 1 shows
a summary of the European denition of Small and Medium-sized Enterprises (SMEs).
Table 1: European Denition of SMEs
Company Category Employees Turnover Balance Sheet Total
Medium-sized < 250 e50 m e43 m
Small < 50 e10 m e10 m
Micro < 10 e2 m e2 m
Source: European Commission, 2005
Because this study is based on small companies, the decision was made to follow the
European denition of SMEs. Therefore, this study will investigate consulting rms
with 50 employees or less and a turnover of e10 million or less.
The database Retriever Bolagsinfo was used to identify consulting rms in line
with our predetermined variables. This database contains nancial information for all
Swedish enterprises and allows users to search for companies with variables of their
6
choice. Due to practical reasons regarding the database, priority was given to consulting
rms within the technology and IT industry. The search was also further narrowed down
to only include limited liability companies primarily in the Gothenburg area for conve-
nience. A number of consulting rms meeting the search criteria were then contacted
by phone and invited to participate in the study. Overall rms responded positively to
the purpose of the study, but most rejected the oer due to time constraints.
Ultimately, two consulting rms were included in the study. The main reason for
this was that the time available was limited. Also, the qualitative data of two interviews
was considered sucient to full the purpose of this study. One of the companies
specically demanded to be anonymous in the study. For that reason the decision was
made to make the other company anonymous too.
The utilised method of obtaining a strategic sample is called convenience sam-
pling. A convenience sample is a sample selected at the convenience of the researcher.
Availability is also important to the researcher. This means that it is a non-random
sample and selected rms may not be representative to the population. This implies
that there is a risk that companies which chose to participate are similar in certain
regards. The possibility of selection biases can therefore not be excluded (Trost, 2005).
The sample of this study lies somewhere between the categories small and micro on the
European scale. Refer to Table 2 for further details.
2.2.3 Selection of Respondents
In order to obtain the information required, each respondent had to be in a position of
substantial insight into the rms nancial strategy and economic routines. Therefore,
the CEO and the CFO of each rm were preferred as respondents. Both the CEO
and the CFO were interviewed at Company A to get full insight into their business,
but at Company B only the CFO was interviewed. This respondent was the former
CEO of Company B and therefore had broad knowledge about their business and had
access to all required information. It is worth noting that the respondents have very
dierent educational backgrounds. CEO A and CFO A both have formal education in
business administration, while CFO B has education within the eld of the companys
core business.
Table 2: Companies and Respondents of the Study
Objects of Study Employees Turnover Respondents
Company A 14 SEK 13.8 m CEO A CFO A
Company B 23 SEK 23.9 m CFO B
7
2.2.4 Interviews
There are basically two approaches toward interviews. The rst is the structured ap-
proach, which often is associated with quantitative studies. The second approach is less
structured, more informal and often associated with qualitative studies. Note that struc-
ture in this context refers to the way questions are asked rather than to the structure
of the interview template itself and the number of answer alternatives (Trost, 2005).
For this study an interview template was developed based on cash management
theory presented in the theory chapter. This template was divided into four sections.
The purpose of the rst section was to get an overall picture of the company. The
second section included some general questions about cash management. Section three
dealt with business cash ows and administrative routines, while the last section focused
on liquidity issues. Refer to Appendix A for the full list of questions. Regarding the
interviews, the less structured qualitative approach was preferred due to its ability to
better capture the respondents view on our questions. The interviews can therefore be
said to have been semi-structured (Blumberg, Cooper and Shindler, 2005). The intention
was to use face-to-face interviews. However, problems with nding participating rms
forced us to make one telephone interview.
2.2.5 Execution of Interviews
To get a better understanding of how the rms apply cash management and how decision
makers think, the respondents were encouraged to speak freely at the start of a each
new topic. The interview template served only as a checklist to ensure that all questions
under each topic were covered and also helped keeping the interview on track. The
respondents were also allowed to study the contents of the interview template in advance.
This was necessary because the time of each interview was limited to an hour and a half
and sought answers to a wide range of questions. There was only time for one interview
with each rm. Questions that were left unanswered were followed up by email.
Three interviewers were present at each interview session in order to minimise
the risk of misinterpreting answers and to ensure quality. However, only one person
conducted the questioning while the other two people took notes on responses and con-
tributed clarifying or follow-up questions when necessary. The interviews were recorded
to support later analysis and the recording equipment was thoroughly tested before each
session. The respondents showed no sign of anxiety or apprehension. They had also been
informed that they would be anonymous.
Both respondents of Company A were present during the interview because
together they had a full view of the nancial situation of the company. This interview
took place at the oce of Company A. As for Company B, only one respondent was
required to cover all questions. This telephone interview resulted in comprehensive work
8
material. The respondent was very open and spoke freely about the questions and this
interview gave as much information as the face-to-face interview.
2.3 Validity and Reliability
The concept of reliability is built on standardised quantitative studies where variables
are measurable. Qualitative interviews on the other hand assume a low degree of stan-
dardisation and structure. According to Trost (2005) it is therefore slightly peculiar to
talk about reliability in regards to qualitative studies. Adding more interviews would
increase the reliability and validity of the study. The risk is that chance biases the
selection of companies, since relatively few have been included in the study. Hence, it
is important to be aware of this during the nal analysis stage. From a statistical point
of view it is therefore not possible to draw any general conclusions from the results of
the study (Trost, 2005). Nevertheless, what this study does is to indicate behavioural
patterns of managers of small service companies. The study exemplies how small con-
sulting rms work with cash management in reality and explains the underlying rationale
of their cash management decisions.
3 Theoretical Framework
The theory in this section is broadly divided into three areas. The rst provides a
general introduction to cash management. Next, theory on ecient cash management
practices is presented. This provides the foundation for how companies should work
with cash management. The last area presents the ndings of previous studies on cash
management practices, relevant to the purpose of this study.
3.1 An Introduction to Cash Management
Cash management can be dened as making money on money and making money on
ecient procedures and support systems (Dolfe and Koritz, 1999, p.1). Cash manage-
ment includes how to handle and manage liquidity. If a company does not have eective
routines to handle receivables, payments etc. a vast amount of capital might be unnec-
essarily tied up within the organisation. Better would be to untie this capital and use
it for investments with higher return.
Cash management does not include the handling and managing of stock. Trea-
sury management is similar to cash management, but it puts more emphasis on placing
and borrowing money in the short-term (Larsson and Hammarlund, 2005).
Cash management impacts the companys shareholder value and protability in
the long and short-run. Active and ecient cash management will inuence the share-
holder value and protability positively, while ineective and negligible management
9
will have a negative impact (Dolfe and Koritz, 1999).
Cash management can also be dened as the management of processes to ensure
the timely collection of cash inows, appropriate control over disbursements, and eec-
tive use of cash assets and liquidity for everyday business operations. These processes
are often departmentalised in larger companies and managed by a specic cash man-
ager or responsible person. In mid-sized or growing companies these positions are not
developed and not a prioritised matter. In these organisations the cash management
processes may not be handled eectively. Eective cash management means that the
income benet of the net interest is maximised. Eective cash management allows for
funds to be available when there is a crisis or when the rm wants to expand their
business (Gleason, 1989).
3.2 How to Manage Liquidity and Cash Flows
3.2.1 Managing Liquidity
Liquidity An organisation purchases resources and transforms these resources into
products and services for the customer. The relationship between the value of the input
and the output creates the protability. The higher the value of the output compared
with the input, the higher the protability. These inputs and outputs lead to inows
and outows of cash. The inows increase the liquidity and the outows decrease the
liquidity (Blomstrand and Kallstrom, 1991).
The capital market is not perfect. The earnings for holding cash may be lower
than the market rate and raising cash may have a higher cost due to transaction costs.
Liquidity has an opportunity cost because of these market imperfections (Berk and
DeMarzo, 2011). Each organisation should try to nd an appropriate level of liquidity
to minimise their costs. Firms with close access to capital markets have incentive to hold
less cash and companies in a growing phase might hold more cash for future investments.
There are three reasons why rms hold cash according to Berk and DeMarzo (2011).
The transactions balance is the amount of cash a company needs to be able to meet its
day-to-day needs. Secondly, the precautionary balance is the amount of cash needed to
compensate for uncertainty associated with its cash ows. Finally, the compensating
balance is the amount of cash needed to satisfy bank requirements.
The conict of how much cash to hold and how much to invest is a balance
between always having enough cash to cover outows and remaining as protable as
possible by maximising interest earnings and avoiding unnecessary costs. The cost of
high liquidity is the opportunity cost of not being able to place the cash in the capital
market at higher return. On the other hand, there is the cost of not having enough cash
and not being able to pay bills on time, including penalty costs. The issue is to weigh
these costs of high and low liquidity in order to get a feasible liquidity level (Blomstrand
10
and Kallstrom, 1991).
The optimal liquidity level diers between organisations. Theoretically, the aim
is to have no interest bearing funds on accounts, and surpluses should be invested in
nancial instruments with higher return (Dolfe and Koritz, 1999). The question is if
this is a realistic level and if the aim to get a zero balance is worth the eort. If the
market rate of return is close to the return on the bank account, the eort in trying
to place the surplus on the money market may be unwarranted. Larger corporations
often have negotiated such high rates of return on their bank accounts, that they do
not benet from placing their surpluses on the money market at all. Some companies
may benet from the extra eort of a zero balance goal, while others may not (Dolfe
and Koritz, 1999).
Liquidity Forecasting The better cash is managed the better the opportunities are
to get a more feasible liquidity. This cash should be handled as eciently as possible
to improve the net interest income. An important tool to reach this goal is organised
liquidity forecasting. These forecasts can easily be handled with computer software
(Larsson and Hammarlund, 2005).
Liquidity forecasting means trying to predict future inows, future outows, how
to place surpluses and nance decits. The aim is to see how these aspects aect future
liquidity (Blomstrand and Kallstrom, 1991).
Liquidity forecasting is made both long-term and short-term. The short-term
forecasting is important to be able to ensure that sucient funds always are available and
to handle short-term uctuations in cash demand. The short-term liquidity needs are
usually monthly forecasted one year ahead. The emphasis is on capturing the monthly
uctuations and to identify seasonal liquidity uctuation (Dolfe and Koritz, 1999). The
more uctuating the cash ows are, the more important it is to identify and forecast
the liquidity level. There is also the issue of deciding which cash ows to include in a
forecast. The focus should be on the large ows of cash that aects the liquidity position
and not on insignicant streams (Dolfe and Koritz, 1999).
The short-term liquidity forecasting should also be complemented with a short-
run plan to identify the everyday in- and outows and making sure that funds are
available. This plan should be more detailed to meet the daily demand for cash (Larsson
and Hammarlund, 2005).
The liquidity forecast should specify a specic time period and try to estimate
inows and outows, both the amounts and the timing of the ows. The time period
varies between dierent organisations depending on industry, cash ow patterns, rm
size and other factors (Blomstrand and Kallstrom, 1991). The most dicult ow to
predict is the inow from customers, since it might be hard to estimate when the cus-
tomer actually is going to pay. The forecast must therefore be based on the previous
11
experience of payment patterns of the customer, which makes it important that the
budget is subject to change (Blomstrand and Kallstrom, 1991).
One liquidity issue is the timing of cash ows. The outows usually occur before
the inows, since the purchasing of resources needs to be done before the incomes from
the customers occur. This timing problem is especially prominent in newly established
and growing companies, since many investments need to be made in the growth phase
and outows usually exceed the inows (Blomstrand and Kallstrom, 1991). If the inows
do not cover the outows, the outows must be nanced somehow. In more established,
healthy rms the situation usually is the opposite; the inows exceed the outows. The
surplus cash must be placed somewhere where the return is as high as possible. The cash
management problems organisations experience diers depending on their respective
situation (Blomstrand and Kallstr om, 1991).
The liquidity forecast will lead to the planning of placing cash surpluses and
might also aect the timing of ordering from suppliers. If the company receives a large
payment from a customer it might be a good time to invest the excess cash in the
operation instead of just leaving the money on an account with a low interest income.
Alternatively, place the money where the return is higher. The purpose with the forecast
is the timing of future in- and outows to get an as ecient cash management as possible
(Larsson and Hammarlund, 2005).
Many companies need short-term nancing to cover temporary decits at some
time. The prediction of future decits is important to get benecial nancing. There
are situations where the inows cannot cover the outows and the liquidity level is
temporarily negative. In these cases the organisation needs to nd a nancial solution.
If decits are predicted in advance, it is easier to get better conditions of the nancing
solutions (Larsson and Hammarlund, 2005). The sooner you know when and how much
cash you will need to borrow, the better are your conditions to nd a good solution.
In summary, good liquidity forecasting is benecial in both the case of a positive and
negative liquidity level.
One solution to short-term nancing is factoring. Factoring means that the
company in need of cash sells invoices to a factoring company, which is responsible for
the dunning of the invoice. The company that sells the invoice receives the invoice
payment instantly, but does not receive the whole amount stated on the original invoice
(Dolfe and Koritz, 1999).
The benecial results of active liquidity forecasting are rstly the ecient bank
management, which makes a comparison of the conditions between accounts possible.
Secondly, the higher return on the investment of temporary cash surpluses and the lower
interest of loans in temporary decits (Dolfe and Koritz, 1999).
Long-term forecasting is provided to the management in order for them to make
12
long-term decisions such as level of liquidity reserves, capital structure strategy and
investment decisions. Long-term liquidity forecasting is usually covering three to ve
years. The main dierence between long- and short-term forecasting except from the
time aspect, is that long-term forecasting deals with more uncertainties such as ination
and demand uctuation and more assumptions need to be made. Therefore, long-term
forecasting is appropriate through simulation models. (Dolfe and Koritz, 1999)
3.2.2 Inward Cash Flows
Managing cash ow processes involves managing inward and outward cash ows. As
explained under limitations (Section 1.4), the attention of this this study is given to
cash inows due to their better potential of aecting the liquidity of small consulting
rms. Below, Figure 1 illustrates the cash receipt process of rms. This process is
sometimes referred to as the credit arrow. The inward cash ows mainly consist of
accounts receivables, and ecient cash management implies receiving inows as fast as
possible, for instance by trying to shorten the credit time, which is the time between
invoice date and payment (Dolfe and Koritz, 1999). This will increase the liquidity as
well as allow rms to earn interest on payments.
Figure 1: The Cash Receipt Process




Proposal Order Delivery Invoice Due date Dunning Receipt
Source: Dolfe and Koritz, 1999
Proposal The rst step of a business process involves shaping tenders that later result
in the closure of agreements. This is the most important step of the cash receipt process
due to its inherent ability to aect future cash inows (Dolfe and Koritz, 1999). By
aecting the conditions of an agreement, such as credit terms, companies can minimise
cash management ineciencies. However, the room for applying cash management
practices depends on industry and rm structure. For instance, an industry exposed to
severe competition with homogeneous products reduces possibilities to inuence credit
and payment terms (Hedman, 1991). One example of this is the automobile industry.
Small rms may also be forced to adjust themselves to larger clients in other regards, for
example in administration. It is therefore important to carefully analyse the relations
between buyers and sellers to clearly understand the room for maneuver in the shaping
of agreements (Hedman, 1991). All information relevant to the customer must be stated
in the proposal (Dolfe and Koritz, 1999).
When negotiating terms and conditions for an agreement the challenge is to
13
receive the most favourable terms given existing constraints. An agreement is basically
concerned with the following four areas: delivery terms, delivery method, payment terms
and payment method (Hedman, 1991).
It is important to receive inward payments as soon as possible to avoid unnec-
essary credit oat. Not doing so always involves a cost to the company and it also
increases the risk of the rm (Dolfe and Koritz, 1999). One possible way of tackling this
problem would be to demand a higher price to compensate for the risk and the term of
credit. As far as the term of credit is concerned, it varies between dierent countries
and industries. In Sweden it is common practice to give customers a credit term of 30
days net (Dolfe and Koritz, 1999). It is important that both parties agree on when the
credit is due and when the credit term is initiated. It may be equal to the date of the
invoice or the arrival date of the invoice. Some companies have the practice of adding a
number of days to the date of the invoice to compensate for postal services (Dolfe and
Koritz, 1999).
In order to decrease the credit term companies should try to demand advance
payment whenever possible, especially if a deal concerns large or special orders (Dolfe
and Koritz, 1999). The credit time for large orders can also be reduced by dividing
payments into several payments at numerous times. Payment terms are also concerned
with the question of applying reminder fees and penalty interest when a payment is
overdue. Penalty interest as well as reminder fees can be renegotiated within the frame
of present legislation to be used as a means of putting pressure on customers paying
their invoices late. However, it is important not to forget that the business relation on
its own may be more important than the right to exert this right (Dolfe and Koritz,
1999).
How the payments are being made is another issue. Payments can be made
in various ways, but electronic bank transfer straight to an interest bearing account
is generally the most ecient method, though it depends on country and situation
(Dolfe and Koritz, 1999). The most crucial issue is to minimise the time from when a
payment is made until the company is earning money on it. Finally, by investigating the
creditworthiness of customers, companies can reduce the risk of not receiving payments
(Dolfe and Koritz, 1999).
Order In the order stage an incoming order should be reviewed in order to certify
that it corresponds to the initial proposal and any deciencies that are found should be
corrected. For manufacturers with a lot of capital tied up in inventory it is of interest to
process orders as quickly as possible to untie capital and increase customer satisfaction
(Dolfe and Koritz, 1999). For service companies the situation is somewhat dierent,
since a service is consumed in the same moment it is produced. Accordingly, there
will be no tied-up capital and of greater importance will instead be to utilise company
14
capacity and resources eciently.
Delivery It is important that the delivery in every respect coincides with the order.
If something is wrong the risk is large that payments will be delayed. Possible errors are
for instance product or service deciencies, damages, wrong quantity, unsatisfactorily
executed service etc. Errors like these will result in delayed cash ows and should there-
fore be avoided. Another negative eect of faulty deliveries is that it might hurt business
relations (Dolfe and Koritz, 1999). As far as products are concerned it is important to
deliver as quickly as possible in order to speed up inward payments (Bennet, 1987).
The delivery of services, however, is dierent from the delivery of physical products.
A service is delivered in the same moment it is executed and the execution of it has a
certain duration. For eective cash management it is therefore important to carefully
regulate when, where and how a service is to be delivered (Hedman, 1991). Hedman also
mentions two important qualities characteristic to companies who are good at delivering
services. The rst is that the responsibility between the contracting parties is mutually
regulated in detail. The second is that extra attention is paid to delivery terms such
as how a task is to be executed and presented to the customer. By that, unnecessary
delays caused by misunderstandings and ambiguities can be avoided.
Invoice In order for customers to be able to pay it is important they receive the
invoice as soon as possible. The ultimate goal is as always to receive payments as early
as possible. An invoice should therefore be created and sent in connection with the
shipping of an order or after a service has been fully executed. The aim should be set
at invoicing customers on a daily basis to avoid hidden credit. Earlier invoicing should
only occur within the scope of special contract terms. As far as the date of the invoice
is concerned it should always coincide with the date of delivery and the delivery date
is regulated either by law or contract (Dolfe and Koritz, 1999). Electronic billing is
an alternative for improving the cash ow of a company, since it is a faster method
for dispatching invoices. It also make it possible to ease the administrative load of
traditional paper bills.
It is important that an invoice includes all the essential information for customers
being able to execute their payments without confusion. It is also important that the
information is well structured and correct to avoid complaints resulting in delayed pay-
ments. If things are made clear from the beginning it will be easier to quickly recover
payments (Dolfe and Koritz, 1999). As far as the due date is concerned it is appropriate
to clearly state when a payment must have reached the seller (Dolfe and Koritz, 1999).
Sometimes invoices are delayed only because invoice data, such as internal order
numbers and references, is missing. According to Dolfe and Koritz (1999) one solution
to this problem is to bill customers in accordance with the underlying agreement anyway
15
to avoid delay.
Dunning The last stage of the cash receipt process constitutes dunning activities.
These activities serves the purpose of encouraging or forcing customers to pay their
debt no later than on the due date (Dolfe and Koritz, 1999). As suggested earlier
the ability of a company to recover debt is often determined through the underlying
agreement, which regulates the ability to charge reminder fees and penalty interest.
Therefore, companies should carefully consider the use of these practices as early as in
the proposal stage. Reminder letters can be sent after an invoice is due, but it may in
some cases be appropriate to remind customers even before this happens. Reminders
can also be made by telephone. If customers do not pay in time it may be advisable
to have a goal set for how late payments to tolerate (Dolfe and Koritz, 1999). It is
important to take the risk of hurting customer relations into consideration if reminder
fees and penalty interest are to be used. According to Dolfe and Koritz (1999) it is not
unusual that the sales force discourage the use of penalty interest for this reason.
3.2.3 Outward cash ow
Despite the primary focus of this study on inward cash ows it is in this context worth
mentioning the cash disbursement process. It is very similar to the cash receipt process
described in Section 3.2.2, with the exception that the delivery stage is replaced with
order receipt and the nal stage with payment. Instead of receiving payments as early
as possible, focus now switches to delaying disbursements as long as possible to fully
utilise credit and reduce the loss of interest. (Dolfe and Koritz, 1999).
3.3 Small Business Cash Management Practices
Previous studies have been made on the cash management practices of small businesses.
Quantitative studies made by Cooley and Pullen (1979) and Anvari and Gopal (1983)
are the most recent. A third study by Grablowsky (1978) on management of the cash
position is also relevant. The results of these studies reveal that small rms in general
show little understanding of cash management practices. However, according to Cooley
and Pullen (1979) some rms in their study were also quite sophisticated in controlling
their cash ows. The relevant ndings of these studies are presented below.
3.3.1 Forecasting
Anvari and Gopal (1983) sent a questionnaire on cash management practices to 500
small Canadian rms. This study revealed that only 53 per cent of the respondents use
cash forecasting. The corresponding gure for large Canadian businesses was 94 per
16
cent. In cases when small rms did use forecasting, the planning horizon was mostly
either one year and/or one month.
Cooley and Pullens (1979) study on 122 petroleum marketers in the U.S. showed
that only 28 per cent of the respondents use forecasting. This was similar to a previous
study on small U.S. rms, where 30 per cent used cash forecasting (Grablowsky, 1978).
Three quarters of those who did apply forecasting in Grablowskys study used a planing
horizon of six months or less. Some rms used very sophisticated cash forecasting
techniques, but these were not many (Cooley and Pullen, 1979).
3.3.2 Cash Holding
In Anvari and Gopals (1983) study 26 per cent applied formal methods for deciding an
appropriate liquidity level. Only 71 per cent of the small rms checked their current
account balance regularly, compared to over 90 per cent of the large rms. Slightly more
than half of the rms had excess cash during 1980 and the amount increased with rm
size. When investing surpluses, the most popular method of short-term investment was
the savings account. A majority dealt with one bank only. Factors aecting the choice
of bank were location, lending limits, price of services, and reputation. Only 57 per
cent negotiated the rate of return and cost for services. Anvari and Gopal state that
the managements of Canadian small rms do not generally seem to recognize cash as
a working asset, and idle cash as a liability (Anvari and Gopal, 1983, p.58).
According to Cooley and Pullen (1979) companies set the liquidity level to match
currents costs. They also wanted to have enough cash to be able to take advantage of sup-
plier discounts and to cushion the eects of unexpected cash requirements. Grablowskys
(1978) ndings were in line with these results.
73 per cent of the rms in Cooley and Pullens (1979) study had recently experi-
enced cash surpluses and these were invested in savings accounts (57 per cent), checking
accounts (25 per cent), or treasury bills (15 per cent). Only eight per cent of the rms
invest in the stock market. The study also showed that by considering other investment
opportunities companies generally could increase prots.
3.3.3 The Credit Arrow
The rms in Cooley and Pullens (1979) survey applied cash control practices to a varied
degree. According to Grablowsky (1978) rms did not nd it worth the eort to spend
time and money on reducing credit oat. In their opinion, it would not improve the
prots of the rm.
17
3.3.4 Important Conclusions From Previous Studies
As mentioned in the preamble to this section, all these studies reveal that small rms in
general show little understanding of cash management. Both Cooley and Pullen (1979)
and Anvari and Gopal (1983) conclude that many rms skip the important step of fore-
casting. Without forecasting, it is dicult to adapt other cash management procedures
with the intention of improving company eciency and protability. Grablowsky (1978)
adds that the lack of cash management procedures may not even be considered a problem
by business managers. Furthermore, he concludes that cash for the most part appears
to be managed on the basis of ad hoc opinions of managers, rather than soundly con-
ceived cash management techniques(Grablowsky, 1978, p.43). Surplus cash was mostly
invested in saving accounts, checking accounts and treasury bills (Cooley and Pullen,
1978). In short, the reason why small rms did not apply as rened cash management
techniques as large rms appears to be due to the lack of time and resources. Cash
management took the attention of managers away from more important problems. The
level of awareness, however, also played a prominent role (Cooley and Pullen, 1979).
3.4 Summary
Cash management is ultimately about the planning and management of cash ows.
Companies can increase protability by deciding an appropriate liquidity level, using
cash management techniques such as forecasting, and having ecient routines for han-
dling inows and outows of cash. However, previous studies indicates there is a gap
between theory and practice of how small rms use cash management practices. In
reality many companies show little understanding of cash management and it is not a
prioritised issue. Forecasting is an important tool for handling cash eciently, but this
is not adopted by many companies in practice. Cash decits should be forecasted in
order to be nanced as appropriately as possible. Cash surpluses should be invested
where the return is higher compared to the business account, which is the opposite of
how companies actually act. Most companies keep their cash in their bank accounts
at a relatively low rate of return. Companies should aspire at receiving their payments
as fast as possible and paying their invoices as late as possible, without inducing any
extra fees. The reasons why small rms do not apply cash management to the same
extent as large companies do, seems to be due to lack of time and resources. From here
focus is turned to the consulting rms of this study to investigate how they use cash
management practices and why they apply these practices in their business.
18
4 Empirical Findings
4.1 Introduction to Companies
4.1.1 Company A and Their View on Cash Management
Company A oers IT-consulting services within the automobile industry. The cash
management function is controlled by CFO A and CEO A, who both have educational
experience in business. CEO A is also one of the two founders and owners of the company
and has previous experience in working with nance.
Cash management means the handling of money short term, according to CEO
A. He states that it includes the handling and management of inows, outows, equity
and liquidity. Cash management is an important tool in an organisation, especially in
a small organisation. Company A takes an active position in cash management, but
he also admits that there is room for improvement. The cash management function is
not connected to an overall nancial strategy, but they still have a cash management
awareness.
4.1.2 Company B and Their View on Cash Management
Company B is owned and managed by the three founders and CFO B is one of them.
CFO B has an education related to the companys core business, but he has no education
within business or economics. Cash management means two things to Company B; the
m ofanagement cash in such a way that the money is not idle and works for you, and the
timing of inward and outward cash ows. CFO B feels that these are areas that could
be improved since their largest focus today is their core operation. He also admits that
cash management is something that has been overlooked and not prioritised because of
other more urgent matters.
4.2 Managing Liquidity, Company A
4.2.1 How Much Cash Does Company A Hold and Why?
CEO A explains that the company has an approximate aim of a liquidity level of ap-
proximately one million SEK. This goal is CEO As estimation of the organisations
approximate total costs per month. He believes that one million is a reasonable liq-
uidity buer for the company, but cannot really motivate in detail why he thinks this
is an appropriate level other than that he thinks it is reasonable and the cash reserve
has always covered the outows. CEO A states that he has a goal of always being able
to cover the outows and wants to keep a high liquidity buer to reach this goal. The
company has never been in a situation where they did not have enough cash to cover
their expenses other than in the start-up period of the company when leveraging was
19
necessary. This buer should cover any unforeseen expenditures and also the daily out-
ows. CFO A does not think that a close to zero balance on the business account would
be reasonable, but he does believe that they could decrease their level of liquidity since
there is an opportunity cost of holding cash , but this has not been considered earlier.
The eort of making forecasting that precisely foresee every cash ow and the
risk of the cash ows not arriving as planned, is not worth the extra return the money
might lead to when lowering the liquidity level and placing cash more benecial. The
fact that the market interest rate is low does not aect their decision of liquidity level
according to CEO A.
4.2.2 Financing Decits and Placing Surpluses
The company uses the bank SEB for their nancial services. They own one check/business
account for daily in- and outows of cash that have a rate of return of 1.65 per cent. The
company also has three depot accounts with a return of 1.65 per cent, same return as
on the business account. The surpluses exceeding their aimed liquidity level, are placed
on the depot accounts. The money on the depot account is subject for placement in the
stock and bond markets depending on the market opportunities which makes the return
on these money potentially higher. The balance on this account uctuates a lot, as the
market changes. If there are many investments and placing opportunities available the
depot might be close to zero, but if the market is uncertain it might have a higher level.
SEB assists the company through two advisors, one for the checking account and one
investment advisor. CEO A communicates with CFO A to see if some money should be
transferred from the business account to the depot account.
The situation that the balance on the depot account is too low to cover the
amount needed for the business account has never occurred and this would not be a
serious issue if it occurred, according to CEO A. If it would happen, CEO A does not
believe it would be hard to get a loan from the bank at a benecial rate since the
company has a stable ground and they have a good relationship with the bank.
The company invest and place their money in bonds and stocks in the long term.
They also pay dividends to the stock owners every year.
4.2.3 Liquidity Forecasting
Short-term forecasting is something that Company A works intensively with. CFO
A has ongoing communication with CEO A about their liquidity situation and 2-4 times a
month they have more detailed check-up. Around once or twice a month CFO A provides
CEO A with a liquidity forecast for him to analyse and to see if any adjustments need
to be made to the account balance. The forecast report describes the liquidity situation
today and the expected in- and outows for the coming 20-30 days. The liquidity
20
report shows what the liquidity approximately will be at the end of the forecast period.
CFO A experiences that the cash ow forecast matches the actual cash ows as precise
as necessary for ecient liquidity planning. CFO A emphasises that a more detailed
forecast report would just take too much time and eort and weigh out the benets.
CFO A explains that he does not try to match the in- and outows since they already
have the marginal to handle the situation where all the outows would occur before the
inows during one month. He always has the depot accounts as backup if the business
account would unlikely reach a zero balance.
Long-term forecasting is more dicult since new projects arrive continuously and
randomly over time. CFO A does not think it is important to forecast cash ows in
a time horizon of more than a couple of weeks, but he does consider identifying larger
future outows important. Because the company is pretty small, CFO A argues that he
has a pretty clear future plan of the larger cash ows in the upcoming months.
4.3 Managing Liquidity, Company B
4.3.1 How Much Cash Does Company B Hold and Why?
CFO B is aiming at maintaining a minimum level of liquidity of two million in order
to avoid liquidity shortages. Two million are slightly more than the average outow of
cash each month, but some uctuations do occur. Rent and payroll are the two major
kinds of recurrent disbursements. To be unable to pay the salaries of employees would
be a nightmare for any company, states CFO B. Especially for this company since cash
ows have been positive every month since the beginning of 2011.
Cash management and liquidity have up till now not been the primary concerns
of Company B. The focus have instead been put on core business and business operations.
However, CFO B believes that the company now has reached a stage where it would be
appropriate to focus on administrative aspects of their business too. Especially if the
strictly positive trend of net cash ows continues and no current expansion possibilities
exist. CFO B thinks that a close to zero balance on their business account is reasonable,
but before steps in that direction can be taken alternative investment opportunities
must be considered to determine if it is worth the eort. This strategy would of course
increase the risk of liquidity shortages.
4.3.2 Financing Decits and Placing Surpluses
Company B uses the bank SEB. Presently a single interest bearing bank account is used
for all business cash ows. The interest is one per cent for this account. Financial
services provided by SEB and used by the company include factoring, check credit and
automated invoice reminding.
21
To prepare for situations of liquidity shortage the company has signed a factoring
agreement. This agreement would if used today cover 1.5 months of average costs or
approximately SEK 3 000 000. Company B also have a check credit of SEK 500 000 at
their disposal at a cost of SEK 5000-6000 per month. According to CFO B, the interest
cost on the check credit is higher than for a company loan, but he cannot specify the
interest cost more precisely. The factoring service has historically been used during
periods of rapid expansion. However, it has only been used once to cover a temporary
operational setback caused by the loss of a major customer in 2010. The factoring
agreement is still in eect, but is currently not used. It is merely used as a safety
buer to cover unexpected liquidity shortages, or as CFO B succinctly puts it: ...the
factoring agreement and check credit is kept to be able to sleep well at night. The
overall strategy of the company is still to expand operations whenever possible. The
factoring agreement is therefore kept for this purpose too.
4.3.3 Liquidity forecasting
Short-term forecasting is not a prioritised matter, according to CFO B. The main
reason for this is that the current level of liquidity is high. The additional eort of
applying liquidity forecasting procedures would only be worth the eort if Company B
aimed at a lower level of liquidity. As mentioned earlier this is not a priority today.
Long-term forecasting is only used to some extent. Company B engages in some
long-term liquidity planning, but only roughly when saving for new investments. The
forecasts are not based on cash ow reports. CFO B emphasises that liquidity planning
has not been an issue of priority since the business always has generated positive cash
ows with an exception of 2010.
4.4 Managing Inward Cash Flows, Company A
4.4.1 From Proposal to Order and Delivery
The proposal process starts with CEO A meeting a potential customer for discussing
business and agreement terms. There are two dierent ways of closing a deal with a
customer. The rst process starts with the conditions of the agreement being established
and Company A creates a quote. This quote is sent to the customer in order for the
customer to approve through a nal contract signed by the two parties. The quote is
approved and the deal is closed through a mutual agreement. In some cases the deal
is closed at a personal meeting and the quote is simply signed and becomes the nal
contract without any editing for the nal contract. This is more common in agreements
with larger corporations when the proposal process often is a more automated and less
22
time-consuming process. Conditions for their services are described in detail in the
contract, but CFO A explains that mistakes requiring correction do occur.
CFO A usually does not check the creditworthiness when forming agreements
with new customers, because most of their customers are large, well-known organisa-
tions. However, if they are about to close a deal with a new smaller customer CFO A
usually runs a credit check to make sure that the customer will be able to pay their bills.
CFO A does not collect any customer statistics on this, but he explains that he considers
himself to have a good view over the inows of cash and the history of payments, since
he is in charge of all the invoicing.
CEO A states that there is no room for negotiating the terms of agreements
with the larger customers, since their contracts already are established and only for the
supplier to sign. He poses that this is a typical process in the larger organisations in the
automobile industry. Around 50 per cent of the customers of Company A are included in
this section, but CEO A explains that there is more room for negotiation with the other
half of their customers. For these customers Company A has standardised contracts, but
for the larger corporations the customers themselves set the terms of the contracts. The
standardised contracts establish a credit time of net 30 days, but their largest customer
has a credit time of net 45 days, which is non-negotiable. Some new projects even have
a credit time of net 90 days. The extra credit time does not lead to any extra fees for
the customer. The credit time is also fully used and payments are usually received on
the due date. Company A does not oer any cash discounts since they do not think this
would be protable for the company.
4.4.2 Invoice
When a contract has been signed and the service has been fullled CFO A sends an
invoice based on the timesheet of the employee. The invoice for a project is usually sent
as soon as the project is nished, but ongoing projects are invoiced once a month. It
does happen that CFO A waits to invoice a customer even though the project is nished,
in order for him to do all the invoicing at the same time at the end of the month. CFO
A means that a monthly invoice standard is established because it is the most eective
way to send invoices, to invoice all customers at the same time. Their largest customer
also demands monthly invoicing.
CFO A usually receives the timesheets from the employees at the end of every
week. He sometimes experiences that this does not work optimally and occasionally the
timesheets are turned in too late. The hours that the customers are being charged are
registered in a time bank and are also identied to which project the hours should be
debited. CFO A also registers the hours into an occupation template and templates
for the larger customers for ling. CFO A declares that the invoicing is made at the
23
end of the month according to the templates including number of hours worked and for
which project. The invoice also includes other expenditures associated with the executed
service, such as ight tickets and travels made for the customers count. The receipts
for these expenditures must be enclosed with the invoice and the collecting of receipts
often delays the invoice from being sent.
CFO A is the only individual responsible for the invoicing and the task will be
delayed if he for some reason cannot perform it. All invoicing is made by mail and the
invoices are printed at the oce and sent to the customers. On the invoices Company
A only species the due date. They do not state when the payment must have reached
their bank account.
CFO A estimates that about ve per cent of all the invoices sent have some kind
of deciency. Usually deciencies are in the form of incorrect order numbers, which
means that the invoices must be remade with the correct order number. This will cause
the credit time to start all over again for the customer and this is also the main reason
why credit notes are made. The average credit time used by customers is the one stated
on the invoice. The customers of the company usually make their payments one the due
date, but approximately ve per cent of all the invoices are delayed. Payments are made
with bank checking and the money is placed on a interest bearing business account.
Company A has experienced problems with receiving essential invoice data from
their largest customer late. This has made them unable to dispatch invoices in accor-
dance with the underlying agreement and sometimes they have been forced to pay taxes
before the actual inow of cash. In the most extreme cases this has led to increased
credit oat by several weeks. The matter has of course been raised with the customer,
but due to the unequal balance of power Company A has had no other choice but to
accept the situation.
4.4.3 Dunning
In the case when the payment of a customer is not received CFO A explains that the
easiest way is to just give the customer a call to see what the problem is. Usually
problems is instantly solved and the payment is made within a couple of days. CFO A
does not charge any reminder fees or penalty interest because he believes that it would
damage customer relations and would not be worth the extra eort. He values the
customer relation higher than the ability of charging reminder fees and penalty interest.
4.5 Managing Inward Cash Flows, Company B
4.5.1 From Proposal to Order and Delivery
Company B obtains orders in two ways. The proposal process either starts when Com-
pany B is contacted by a consulting broker on the behalf of a client, or when a customer
24
contacts Company B directly. Consulting brokers apply standardised industry contracts.
These contracts may be modied, but according to CFO B it is not very common. When
Company B is negotiating directly with customers standardised industry contracts are
also used. However, the room for adjusting the terms of an agreement is larger.
In both cases the standardised contracts apply a credit time of net 30 days.
Only one of their customers is oered a credit time of net 90 days. This is an explicit
demand from the customer and consequently not open to negotiation. Company B would
normally not accept such credit terms. However, this customer is likely to provide a
long term source of income and since only small amounts of money are involved the
nancial risk is low. The consultant stationed at this customer is also very pleased with
working there. From CFO B it seems like this might also be a reason why a longer
credit term than normally has been accepted. The extra credit time for this customer
does not involve any additional fees.
Given credit term is always fully utilised by customers and payments are gener-
ally received on the due date or shortly after. It happens that payments are split into
several instalments to generate a more even cash ow.
CFO B does not feel that it is necessary to check the creditworthiness of their
customers, because most of the customers are larger well-established organisations. How-
ever, creditworthiness is not checked for small unknown rms either. CFO B explains
that he is aware that small and new established rms seldom have good creditworthiness,
but he rather takes the risk of doing business with these rms in order not to miss out
on a potential future customer. Since a vast amount of their customers are consultant
brokers, CFO B believes that they usually take a larger risk towards the nal customer.
The brokers are the ones that have the nal customer responsibility, but the brokers can
also default, which denitely would aect Company B negatively.
4.5.2 Invoice
Invoices for each project are always sent at the end of each month no matter if a project
has been nished earlier during the month. According to CFO B most of Company Bs
larger customers prefer to receive invoices on a monthly basis. It also gives CFO B a
comprehensive view over the current situation. He likes being able to double check time
reporting to make sure it corresponds to the number of hours invoiced. Accordingly
Company B seldom receives invoicing complaints. Furthermore, he experience that the
time left for him to engage in core business activities increases when the invoice handling
is limited to one occasion each month.
Company B has a developed custom-made software for time reporting making it
easy for employees to register their work online at the end of each day. If employees for
some reason would fail to perform this daily routine an automated email is immediately
25
sent as a reminder.
At present CFO B is the only individual at the company responsible for invoice
handling. In case he for some reason cannot full this task, for instance as a consequence
of illness, the handing of invoices will be delayed. For this reason another employee is
currently being trained at Company B to be able to act as a stand-in.
Company B uses a business system called Fort Knox. When a payment is regis-
tered in the system information on the payment is sent by email to one of For Knoxs
service providers. The invoice is next printed and sent by mail to the receiver. The
due date is clearly specied, but it is not evident when payments must have reached the
bank account of Company B. Received payments are directly transferred to the bank
account of Company B.
Company B do not charge any penalty fees or interest. CFO B believes that the
use of such practices would damage customer relations, especially when considering the
relatively small amounts of money in question.
4.5.3 Dunning
CFO B does recognise that there are some customers that always are delayed with
payments, but this is not lasting in the long run. In situations when payments of
customers are not received, an automatic reminder letter is printed and mailed directly
by their bank SEB. This usually solves the problem instantly and the payment is made
within a couple of days. In fact, the whole accounts receivable ledger is managed by
SEB. The reminders are signed by SEB instead of Company B, which according to CFO
B make customers take late payment more seriously. It also saves Company B a lot of
administrative eort. If the invoice does not get paid after the rst reminder another
reminder is sent to the customer that states the invoice is to be sent for debt collection.
This is a rare situation and CFO B can only recall it has happened once.
It is stated on the invoice that they do charge penalty interest, but in reality
CFO B reveals that this is not the case. He believes that it would just take unnecessary
time and might damage customer relations for a small amount of money.
4.6 Summary of Empirical Findings
The purpose of this section has been to present the data gathered through the qualita-
tive interviews of this study. The ndings indicate the following major equalities and
inequalities regarding cash management practices in the two rms:
The key individuals in each rm have dierent backgrounds. CEO A and CFO A
have formal education in business, while CFO B is educated in the eld of the core
business of the company. CFO A works full-time with economic administration
while CFO B have other responsibilities as well.
26
Both companies have a rough goal of setting the liquidity level equal to one months
cash outows. When nancing decits Company A relies on large cash reserves,
but Company B relies on check credit and their factoring service. Company A
actively seeks to invest surplus cash at a high return. Company B, on the other
hand, neglects this opportunity to earn higher return.
Company A actively rises short-term liquidity forecasts. However, Company B
does not see any need of forecasting due to the long-run net positive cash ow of
their business. None of the rms rise long-term forecasts.
At the proposal stage both rms are unable to aect the agreement terms with
customers to any greater extent, because industry standards and/or power imbal-
ances limit their room for action. 50 per cent of the customers of Company A
have a credit time of net 45 days. The rest have net 30 days with some exceptions.
Company B applies a standard credit time of net 30 days with some exceptions.
Timesheets are collected on a weekly basis at Company A, while Company B
collects them every day.
Invoicing is processed quite frequently at Company A, but a majority of the in-
voices are sent by the end of the month. Company B invoices once a month even
if it would be possible to process invoices earlier.
None of the rms utilise reminder fees or penalty interest due to the possible
negative eects on business relations.
Next, a comparison between the theoretical framework and the empirical ndings will
be presented and analysed.
5 Analysis
5.1 Liquidity
5.1.1 Why Do Companies Hold Cash?
According to Berk and DeMarzo (2011) there are three motives for rms to hold cash:
The transactions balance, the precautionary balance and the compensating balance.
CEO A and CFO B state that they want the liquidity buer to cover the daily needs.
This corresponds to the rst motive for holding cash - the transaction balance. CEO
A states that the liquidity buer should cover the daily outows, but also unforeseen
outows. CFO B explains that their liquidity buer should cover the daily needs, but
also uctuations in the cash ows. The motive for holding cash is rstly the transactions
27
balance, but also to cover unforeseen and uctuating cash ows. This corresponds to
the second motive for holding cash - the precautionary balance.
Both of the companies support the two rst motives of holding cash, but do
not really mention the third compensating balance in the motivation of liquidity level.
This has a logical explanation since none of the companies have any bank loans and the
compensating balance therefore has no signicant impact on the liquidity level. One
important observation is that both CEO A and CFO B have made an estimation of
what they think is an appropriate level according to them and have not really tried to
investigate if it is reasonable in other senses.
5.1.2 How Much Cash Do Companies Hold?
Holding too much cash has an opportunity cost but on the other hand, holding too little
cash might also lead to costs and default (Blomstrand and Kallstrom, 1991). Company
A has never been in a situation of nancial distress, or needed to borrow money to cover
expenses other than in the start-up period. CEO A prefer to hold what in theory is
dened as too much cash for cost minimising, with the motivation of avoiding risk.
Company B has not needed to use any kind of short-term nancing the last year, since
they have decided to keep a high liquidity buer.
The issue is to nd a feasible liquidity level, to weigh the cost of a high and
low liquidity (Blomstrand and Kallstrom, 1991). This diers from the both companies
that do not weigh the costs of holding too much cash and holding too little cash.
The CEOs have instead made an approximation of what they think is an appropriate to
avoid risk. Neither Company A nor Company B apply formal methods when deciding
an appropriate liquidity level even if they both make some kind of conscious choice.
According to Anvari and Gopals study (1983) 26 per cent apply formal methods in
their liquidity level decision. This shows that Company A and Company B are no
exceptions.
One big dierence between the companies is that Company A places the cash
exceeding their aimed liquidity level on another depot account where the money poten-
tially receives higher return on the bond and stock market. Company B on the other
hand has not been working actively with investing their excess cash, since they have not
until now felt that they had that amount of cash to consider it necessary. According to
Dolfe and Koritz (1999) the aim for a company should be to place surpluses in nancial
instruments with higher return than bank accounts. This is something that agrees with
how company A acts, but is not applicable to Company B. The most common type of
investment is to place money in bank accounts, and most companies only use one bank
according to Anvari and Gopals study (1983). This agrees with how Company B acts.
They only use one bank (SEB) and they keep all their excess cash in one bank account.
28
Company A also uses one bank, but diers in the sense of cash placement. The cash
that is not paid as dividends or reinvested in business operations is placed on the stock
and bond markets. Cooley and Pullen (1979) revealed that only eight per cent of the
respondents in their study invested in the stock market.
CFO A does not think that a zero balance is benecial for them. The forecast
would in that case need to be very precise and the cash ows stable. He does not think
that the current level is optimal and probably should be lower weighing the advantages
and disadvantages with a lower liquidity level. This supports Dolfe and Koritz (1999)
who state that the issue is to weigh the extra eort required with the cost minimisation
it leads to. CFO B states that he thinks that a close to zero balance could be feasible
for them since their cash ows are pretty stable and they do have factoring and check
credit solutions if the cash balance would be negative. The dierent approaches that the
companies have support Dolfe and Kortitzs (1999) theory that some companies benet
from a close to zero balance while others do not.
5.2 Liquidity Forecasting
5.2.1 Do Organisations Establish Liquidity Forecasts?
Liquidity forecasting is an important tool in order to manage cash eectively and to
increase the net interest income (Larsson and Hammarlund, 2005). Company A works
intensively with short-term forecasting while Company B does not work with forecasting
at all. CFO B states that liquidity planning has not been a prioritised matter and focus
has been on the core operation. He also states that since the liquidity has not been
high, liquidity forecasting has not been necessary. If the company would start to work
more eciently with cash management, CFO B admits that liquidity forecasting would
be necessary, similar to what Larsson and Hammarlund (2005) express. The awareness
of these benets of forecasting exists in both companies, but only Company A works
actively with forecasting. Because of this, the following analysis will be connected to
Company A.
Short-term liquidity forecasting is important to be able to handle uctuations
in the demand of cash. The short-term forecasting should be made monthly, about
one year ahead in order to ensure that sucient funds always are available (Berk and
DeMarzo, 2011). This is consistent with how Company A handles their short-term
liquidity planning. CFO A compiles a liquidity forecast describing the in- and outows
of cash over the coming 20-30 days and communicates with CEO A to make changes
in the liquidity balance accordingly. The focus in the liquidity forecast should be on
signicant cash ows that aect the liquidity situation and not on the insignicant ows
(Dolfe and Koritz, 1999). This corresponds to what CFO A states, that the focus should
be on the most important ows and that a more detailed forecast would not be worth the
29
eort. The purpose of the forecast is to approximately see what the liquidity situation
will be like at the end of the forecast period. The forecast reects the outcome to an
appropriate extent, which is a fact that Dolfe and Koritz (1999) emphasise.
5.2.2 The Timing of Cash Flows
Another liquidity issue is the timing of cash ows, which usually is not a big issue in
more established rms since the inows usually exceed the outows (Blomstrand and
Kallstrom, 1991). This is the case in both the companies. CFO A states that he does not
try to match in- and outows since they have the liquidity buer to cover the situation of
the outows occurring before the inows, and CFO B says that neither does he, because
their cash ows exceed the inows. The liquidity forecast can lead to planning the
outows better. Some purchases should maybe be postponed to balance the cash ows
and enable a lower liquidity level (Larsson and Hammarlund, 2005). Neither Company
A nor Company B think that this is necessary. They both have the buer to cover all
the outows if all the inows would come at the end of the month and the outows
earlier.
5.2.3 Forecasting Short-Term Financing
Company B uses their check credit with relatively high interest cost and in some cases
they also use the factoring service oered by their bank. If they knew when and how
much cash they would need, they could probably get better conditions from the bank and
potentially get rid of unnecessary cost for factoring and check credit. Most companies
need short-term nancing at some point, and the better this decit is predicted, the
better solutions and conditions they could get (Larsson and Hammarlund, 2005). What
seems like an easy and fast solution to situations of nancial stress in terms of guaranteed
credit and factoring services, potentially leads to unnecessary expenditures that could
be removed through better forecasting. The issue is to weigh the cost of this expensive
quick x compared with the cost of detailed forecasting processes.
Dolfe and Koritz (1999) point out the benecial results of active liquidity fore-
casting. Firstly, eective bank management makes it possible to compare conditions
between possible accounts. Secondly, the result in the improvement of interest through
knowing how much that will be needed to borrowed and when. The situation of needing
short-term nancing has not been applicable to Company A for a long time since it is an
established, healthy rm in a phase of slow expansion. Company B on the other hand
has been in this situation and may need to nance future expansion. Proper forecasting
could denitely benet their future need of cash in a phase of expansion as Dolfe and
Koritz (1999) points out.
30
5.2.4 Long-Term Financing
Long-term forecasts running over 3-5 years should be provided to the management for
them to make decisions regarding the size of liquidity reserves, capital structure strategy
and investment decisions (Dolfe and Koritz, 1999). This does not correspond to how
Company A and Company B argue. Long-term forecasting is something that CFO A
does not think is of high priority. He states that cash ows with a time horizon of a
couple of years would not aect how they handle the cash ows today. New projects
occur and others are nished, which means that cash ows would be too dicult to
predict so far ahead. He does believe that it is important to identify major outows
and prepare for them, but since the company is pretty small he does not think that
it is necessary with forecasts. The companies do believe that some kind of long-term
planning is benecial, but maybe not to the extent that Dolfe and Koritz (1999) pose.
Company B does not establish any long-term forecasts either, but they do engage in
some planning of future projects and cash ows.
5.2.5 How Important Is Forecasting?
The benecial results of active liquidity forecasting are rstly the ecient bank manage-
ment which makes a comparison of the conditions between accounts possible. Secondly,
the return on the investment of temporary cash surpluses and the lower interest of loans
in temporary decit. This eect is through knowing which amounts that will be bor-
rowed in the future and knowing how big the surpluses will be. Thereby you can get
better conditions (Dolfe and Koritz, 1999). This corresponds to what CFO A states,
but he does believe that the forecasting should not be overworked, but to some extent
the forecast is important to establish. CFO B has not until now felt that forecasting is a
prioritised task, other processes in the company are more important but he does realise
that an improved liquidity planning could improve their situation.
Both companies are considered as small and the Anvari and Gopal (1983) ques-
tionnaire shows that the use of forecasting is far more used among larger organisations.
The studies of Cooley and Pullen (1979) and Grablowsky (1978) show that approxi-
mately 30 per cent of the investigated rms use forecasting. Company B is no exception.
CFO B emphasises that liquidity and forecasting have not been matters of prior-
ity, because the company has generated positive cash ows since 2010. CFO B believes
that the company is arriving at a stage where cash management is becoming more impor-
tant, which shows that a companys development is connected to the concerns about the
level of liquidity. The company is starting to realise Dolfe and Koritz (1999) emphasis
on the importance of liquidity forecasting.
31
5.3 Inward Cash Flows
5.3.1 From Proposal to Order and Delivery
Theory by authors such as Dolfe and Koritz (1999) and Hedman (1991) accentuate the
importance of giving careful consideration to the proposal stage due to its overall impact
on cash ows. During this stage agreements are formed and terms, which constitute the
frame of a deal, are determined. Company A tries to look after their interests by
aecting agreement terms such as price and credit terms whenever possible. However,
because their largest customer is a major manufacturer in the automobile industry
their abilities to inuence the terms of an agreement are limited. As Hedman (1991)
indicates, suppliers in the automobile industry are often under immense pressure and
have no choice but to submit themselves to the stipulation of their clients. Company
A must therefore accept credit terms of net 45 days towards their largest customer.
For some new projects the credit term is even as long as net 90 days. In addition,
this customer corresponds to approximately 50 per cent of the business. This involves
both high risk taking and the loss of interest gains. Dolfe and Koritz (1999) suggest
that a higher price could compensate for the increased risk and longer credit term, but
CEO A has never considered demanding this kind of compensation. Neither has CFO
B, but unlike Company A, Company B sometimes demands split payments to generate
a more even inow of cash. These observations suggest a possibility to improve cash
management practices in both companies.
According to CEO A, the terms of an agreement are more open to negotiation
in the case of other customers. Standardised contracts with credit terms of net 30 days
are used, but longer credit terms are accepted in special cases. Company B also uses
standardised contracts with credit terms of net 30 days. This is often a demand from
the consulting brokers. According to CFO B, the possibility to inuence the terms of
an agreement is greater when negotiating terms with customers directly, but similar
contracts are usually used. CFO B tries to keep credit terms short. He only accepts
longer credit terms in special cases. One such case when net 90 days were accepted did
not involve any large amounts of money. CFO B justies this case by referring to the
low nancial risk involved. Surprisingly, he also refers to the fact that the consultant
who is assigned to this customer enjoys working there.
An important step before signing an agreement is to investigating the credit-
worthiness of customers to minimise credit risk. In fact, this is not only true for new
customers but also for existing ones (Dolfe and Koritz, 1999). Company A usually does
this with new, small customers, but not for existing ones. Most of their customers are
large companies whom they trust. Company B never checks the creditworthiness of
their customers. The reason is that CFO B to a great extent trusts their larger business
partners. He is doing business with small unknown rms too, even when their credit-
32
worthiness turn out to be bad. This is normal for this group of rms. He does not want
to miss out on potential future customers and it is usually small amounts of money in-
volved that outweigh the risk (CFO B). Even though Dolfe and Koritz (1999) state that
it is important to investigate the creditworthiness of customers, Company B believes
that in some cases potential customers could be lost. Furthermore, they consider the
risk of default to be low.
From the data presented above, the observation can be made that both Com-
pany A and B try to inuence the agreement process to protect their own interests.
However, this seems to be done intuitively, rather than being based on some kind of
nancial strategy or cash management techniques. This is coherent with the ndings of
Grablowsky (1978) which state that managers base decisions on ad hoc opinions rather
than soundly conceived cash management techniques. Their ability to do this is how-
ever partly limited, mainly depending on the size and inuence of the other contracting
party. This is entirely in line with Hedman (1991) who points out that small rms may
be forced to adjust themselves to larger clients. Even when customers demand terms
which are less favourable, the companies in this study seem to accept these if they know
the business relation is likely to guarantee them a stable inow of cash in the long-run.
The fact that Company B accepts longer credit terms than usual, because a consultant
enjoys working for a specic client, also reveals that the decision making of small rms
is partly irrational. Thus, there is a personal dimension aecting the decision making
of managers.
Managers use standardised contracts to simplify the agreement process with
customers. In other words, time and resources are scarce to small rms and the attention
of managers is needed for other tasks as well. This is in line with the ndings of Cooley
and Pullen (1979).
Finally, creditworthiness seems to be handled dierently by the two rms of this
study. While Company A was very careful, Company B largely trusted their business
partners. Company B also did not mind taking small risks in order to build business
relations.
5.3.2 Invoice
When invoicing, the primary goal is to send the invoice as early as possible in order
to receive payments as quickly as possible. Preferably, an invoice should be sent when
shipping a good or directly after a service has been executed. If invoicing is done
eciently the liquidity of the rm will be improved (Dolfe and Koritz, 1999).
Before invoices can be dispatched the sender must have relevant invoicing data.
In consulting companies, invoices are based on the actual work performed by the em-
ployees. At Company A consultants report work time on a weekly basis, but timesheets
33
and receipts required for invoicing are occasionally turned in too late, which delays the
dispatch of invoices. CFO A believes they could do better and the key to avoiding this
kind of situation, he thinks, is to make employees more aware of the importance of swift
and correct reporting. Company A has ongoing problems with invoice errors. CFO A
estimates that about ve per cent of the invoices are returned due to errors. When
errors occur it is usually about small specication problems or because of faulty order
numbers. Company B is better at handling time reporting and their consultants report
at the end of each working day via their customised system. CFO B believes this routine
is a one reason why complaints by customers regarding invoices are very uncommon.
These ndings suggest that the companies in the study are well aware of the im-
portance of a well functioning system for reporting consulting hours. This may decrease
the risk of experiencing unnecessary invoice errors (Dolfe and Koritz, 1999). However,
there is room for improvement at Company A by more frequent time reporting. As
Dolfe and Koritz (1999) state, this would allow them to dispatch invoices earlier and to
avoid unnecessary delays caused by faulty invoice data.
Company A has also experienced problems with receiving necessary information
from their largest customer. In the most extreme cases this has extended the original
credit terms of net 45 days by several weeks. According to CEO A, the blame is entirely
on the customer and the issue has been raised for discussion. By nding ways to avoid
this kind of situation Company A can improve cash ows and liquidity (Dolfe and Koritz,
1999).
The invoices of both Company A and B contain all necessary information for
customers being able to execute payments. However, it is not specied when payments
must have reached the bank accounts of the companies. This is against the recom-
mendation of Dolfe and Kortiz (1999). If they did, it is likely that payments could be
received earlier and thus increase protability (Dolfe and Kortiz, 1999).
When Are Invoices Sent? According to the recommendation of Dolfe and Koritz
(1999), it is advisable that companies have more than one individual who is familiar
with the invoicing procedures. This would reduce the risk of not being able to dispatch
invoices. At both rms, CFO A and CFO B are the only individuals responsible for
invoicing. In case they are absent invoicing is likely to be delayed. Company B, however,
is currently training additional sta to be able to stand in if necessary.
Dolfe and Koritz (1999) suggest that invoices be sent on a daily basis to increase
the speed of cash ows. However, none of the companies act accordingly. Company A
tries to invoice smaller projects as soon as they have been nished, but since working
hours only are reported once a week this usually takes one week at best. Other projects
with their largest customer are invoiced once a month according to terms Company
A has no other choice but to accept. CFO A admits that many invoices are delayed,
34
but he does not seem particularly bothered if invoices are dispatched a couple of days
late. Company B always dispatches invoices at one occasion at the end of each month,
regardless of when a project is nished. According to CFO B, larger customer often
request this practice. In case of smaller customers, there is more room for negotiating
credit terms. If invoices were sent directly after nishing a project, Company B could
receive payment earlier and earn interest in accordance with Dolfe and Koritzs (1999)
recommendation. However, CFO B justies this practice by referring to administrative
advantages. It saves him a lot of time making him able to spend more energy on core
business activities. He believes he is more valuable to the rm when he devotes himself
to core business activities. CFO B also prefers this monthly routine, since it gives him
good overview of the current situation.
In sum, the advice by Dolfe and Koritz (1999) to invoice on a daily basis is not
followed by the companies in this study. This is mainly due to time constraints, lack of
resources or larger customers stipulating other procedures. Cooley and Pullen (1979)
also found that the lack of time and resources are two fundamental reasons why small
rms do not apply cash management practices.
How Are Invoices Sent? In order for customers to be able to pay they must receive
the invoice as soon as possible (Dolfe and Koritz, 1999). Company A sends invoices
by ordinary mail. A speedier option would be to use electronic billing. CFO A says
that electronic billing could be implemented rather easily, but he believes the impact
on inows of cash would be minor. Company B also sends invoices by mail through the
service provided by SEB. This service simplies the administrative tasks executed by
CFO B and it leaves him more time for other business activities. Again, this indicates
that time and resources are two important variables aecting the renement of cash
management routines. CFO B nds this service well worth its price and he would not
be interested in electronic billing even if it was faster.
How are Payments Made? Dolfe and Koritz (1999) prescribe that companies should
invest surplus cash at highest possible interest. This implies that companies should try to
earn interest on funds in general. Therefore, money should directly upon payment always
be transferred to interest bearing accounts or be used for more protable investments.
Both Company A and B follow the recommendation of Dolfe and Koritz (1999) and
transfer all incoming payments to their interest bearing business accounts directly.
5.3.3 Dunning
Sometimes customers fail to pay on time in accordance with the agreed terms. Reminder
fees and penalty interest are two common means for exerting pressure on customers who
do not pay. Reminder letters can be sent to customers who do not repay their debt in
35
time. Reminders can also be made by telephone, which may be appropriate if the total
number of invoices is small (Dolfe and Koritz, 1999).
The customers of both companies usually make their payments when they are
due, but a small portion of the payments are always delayed. There is a risk of hurting
customer relations if reminder fees and penalty interest are used. It is not unusual that
the sales force discourage the use of penalty interest for this reason (Dolfe and Koritz,
1999). In accordance with this, CFO A does not charge reminder fees or use penalty
interest. These are included as a part of the payment terms, but CFO A believes that
the use of fees like these would damage customer relations and it would not be worth
the extra administrative eort. This is similar to what Dolfe and Koritz (1999) state.
Neither does Company B charge reminder fees or penalty interest. CFO B is of the same
opinion as CFO A. The use of such practices would damage customer relations and is
not worth the eort, especially when considering the relatively small amount of money
in question.
One conclusion that can be drawn from this discussion is that managers give
priority to business relations over the potential gain of earning money by aggressive
dunning practices. This is in line with Dolfe and Koritz (1999) theory. Both CFO A
and CFO B do not consider payments arriving a couple of days late a big problem. This
laissez faire attitude may also be explained by the fact that dierent companies calculate
the actual due date dierently. As Dolfe and Koritz (1999) state it is not uncommon that
companies add a couple of days to the due date to compensate for postal services. Simply
calling customers whose payments are overdue is usually the easiest way of tackling the
problem. In sum, both Company A and B have relatively few problems with overdue
payments and when these problems do occur they are preliminary solved on a friendly
basis rather than by using aggressive dunning practices.
6 Conclusion
6.1 Results
How do small consulting rms apply cash management practices in their business?
The companies in the study apply cash management techniques in their liquidity work
and use liquidity forecasting to some extent. They do not use any specic cash manage-
ment tools. The liquidity level is rather based on arbitrary estimates. The motives of
holding cash according to Berk and DeMarzo (2011), agree with the motives the com-
panies have when setting their liquidity level, but it is not a conscious choice. When
deciding how much cash to hold both companies prefer to hold more than necessary
according to cash management principles (Blomstrand and Kallstrom, 1991). CFO A
does not think that a close to zero balance is realistic but CFO B believes that a close
36
to zero balance could be reasonable.
The aim for an organisation should be to place excess cash where the return is
higher than on the bank account. This is something that Company A adopts but not
Company B. Liquidity forecasts are established in Company A, but not in Company B.
Company A establishes short-term forecasts corresponding to cash management policies.
Neither of the companies establish long-term forecasts as recommended by theory, but
both companies have some idea of cash ows in the long run. Lastly, the companies do
not work actively with timing of inows and outows of cash.
It is important that companies have ecient administrative routines in order
to improve the inow of cash (Dolfe and Kortiz, 1999). The analysis of the companies
based on the credit arrow reveals that their routines are sophisticated in certain areas,
while some areas are neglected. There are some areas where they could improve their
routines for the cash inows. Both of the rms in the study try to protect their interests
by negotiating the agreement terms with customers when possible. Both companies
also dispatch invoices on a monthly basis. Company A occasionally invoices smaller
projects upon completion. The design of the invoices is clear and only one individual is
responsible for invoicing at both companies. As far as reminder fees and penalty interest
are concerned, the study shows that neither of them are used.
What is the underlying reasoning to why managers of small consulting rms apply
cash management the way they do?
When deciding liquidity level, the CFOs make an estimation of what they think is an
appropriate level. The reason they do this is because it is convenient and they think that
it is reasonable. They base their liquidity level on one month of outows to avoid the
risk of not being able to pay their invoices and covering the daily need for cash. Avoiding
the risk of nancial distress outweighs the potential loss of return on placements. They
would rather have what might be a too large buer and be sure that they always have
cash available.
In Company A, the cash exceeding the liquidity level is placed in the stock and
the bond markets in order to get higher return on the money. CEO A wants the resources
to be placed where the return is highest, but at the same time he wants to avoid risk.
CFO B on the other hand does not give priority to placing cash where the return is
higher. He does not nd this necessary. He does think that since their cash buer is
getting larger every month, it would be reasonable to place excess cash better, but still
he would like to avoid too much risk.
Both CEO A and CFO A appreciate the value of short-term liquidity forecasting
and utilise this cash management technique. They believe it improves the nancial
situation of the company. Furthermore, they believe that long-term cash ows are too
dicult to forecast in order to justify the use of long-term cash forecasting practices.
37
It is simply not worth the eort. The reason why CFO B does not use any forecasting
techniques is that he considers their liquidity buer large enough to make liquidity
planning unnecessary. He does not consider the potential gains of investment alternatives
other than their bank account.
The ndings of this study also indicate that lack of time and resources is an
important factor why companies do not pay more attention to cash management prac-
tices. This is in line with the ndings of previous studies by Cooley and Pullen (1979)
and Grablowsky (1978). For instance, this is reected in CFO B preferring invoicing on
a monthly basis for reasons of convenience. He also considered engaging in core busi-
ness activities to be a more valuable contribution to the rm. In other words, nancial
managers of small rms are likely to have other responsibilities as well.
Another nding explaining why managers do not utilise cash management prac-
tices is that business relations are often given priority over the (in their opinion) small
gains of more sophisticated procedures. This is why reminder fees and penalty interest
in general are not used, and unfavourable terms may also be accepted if the business
relation is likely to generate stable and long-run prots.
Is there room for improving current practices in accordance with cash management
theory?
The companies studied have what theoretically is a too high liquidity. If they could
lower their liquidity they could get higher return on the money exceeding their buer. If
they rened their techniques of setting the liquidity level they could get a more feasible
level. However, this may increase the risk of experiencing liquidity shortages.
Company A already places cash in a depot account where the return is potentially
higher and they could benet from raising the balance on this account. Company B on
the other hand does not have another account and would benet from placing surpluses
in nancial instruments with higher return than bank accounts.
Liquidity forecasting could denitely benet Company B that does not work with
this at all today. This is also connected to the liquidity level. If they could predict their
cash ows they could also estimate an appropriate liquidity level. Both companies could
benet from a more long-term forecasting through improving management decisions.
The issue with forecasting is to weigh the eort it takes to establish a correct forecast
against the benets it brings.
In accordance with Cooley and Pullen (1979), the empirical ndings of this
study suggest there is room for improving cash management practices by relatively sim-
ple measures. The companies should try to invoice customers more frequently, especially
Company B regarding larger payments. Company A should try to improve time report-
ing routines to avoid extended credit terms. Both companies should also specify credit
terms as the date when payments should be at their accounts.
38
We have only investigated two small rms and cannot draw any general conclu-
sions from our ndings. What we can do is to identify areas where companies similar
to those of this study also may experience cash management issues that are possible to
solve. The study has identied some similarities between the companies, which indicate
there is a pattern of how small consulting rms behave and why. In order to draw more
general conclusions a larger amount of companies must be investigated.
6.2 Reections
In this section we would like to share our thoughts on some observations we have made
during the work process.
Liquidity The liquidity level in both companies is high. This is something that both
theory and the respondents support. However, the issue to consider is if it is too high.
Theoretically the level should be lower, but the lower the liquidity the higher the risk.
It is hard to estimate how high the risk is compared with the costs. As long as market
conditions are stable and the customers are stable the risk is low, but these conditions
dier between organisations and are usually not stable. In the case of Company A they
are very dependent on one large company, which may increase the risk. If this customer
suddenly would be unable to pay their invoices it would dramatically aect the cash
inows of the company. The market forces have also revealed, especially after the
nancial crisis of 2008, that markets are unstable and extremely volatile. These forces
inuence organisations to hold more cash as a buer to shield from downturns. The
impression is also that small companies are more risk averse than larger organisations.
In sum, the liquidity level is connected to risk, and the risk is dierent in industries and
organisations.
The reason for companies to invest surplus cash exceeding the liquidity level
is that this enables them to increase the return compared to the return of their bank
account. The larger the dierence between the return on the bank account and nancial
instruments, the larger are the incentives to relocate excess cash. This dierence is
small today and interest rates are low. Consequently, this might discourage companies
to make the extra eort of relocating cash surpluses. On the other hand, if the interest
level rises, this could be a large raise in the rate of return on their investments.
Forecasting Forecasting is time-consuming and it takes a lot of eort, this needs to
be compensated with the benets it brings. The cash ows of small consulting rms
seem to be unsecure and volatile. This makes the forecasting process harder and more
sensitive. Company A has few large customers that aect the cash ows. This means
that one single delayed payment by a customer may derange the whole forecast. On the
other hand, the planning of cash ows helps small companies to foresee these kinds of
39
issues. A delayed payment could have severe eects on the liquidity of a small company.
Consulting companies often oer projects that may be more dicult to predict than the
sales of a manufacturing company. The service might change or the project is simply
aborted for some reason. A project seems to be more risky and subject to change,
compared to selling goods.
Knowledge The level of awareness of the potential benets of cash management tech-
niques is obviously dependent on knowledge. The knowledge level is very dierent in the
two companies of this study. Managers at Company A have knowledge of business and
economics, while CFO B lacks formal education in this area. This of course aects the
decision-making process and how cash management practices are applied. In sum, the
prerequisites for ecient cash management procedures strongly dier between Company
A and B.
Ownership Another reection is concerned with how ownership structure aects the
decision-making in small rms. Small companies are often owned and run by a small
number of people. This implies they have large possibilities to control the business,
without taking a larger circle of owners into consideration. In that case the primary
goal of an individual in a decision making positions is not necessarily to maximise the
return of the shareholders. Owners maybe give higher priority to their own interests,
rather than to what strictly economically would be best for the company. That small
rms do not utilise cash management techniques may then be explained by the simple
fact that it is not in the interest of managers.
6.3 Suggestions for Further Research
Previous quantitative studies of cash management practices of small rms are dated.
The most recent studies we were able to nd are those made by Grablowsky (1978),
Cooley and Pullen (1979), and Anvari and Gopal (1983). Much has happened since then.
The development of IT-technology has for instance resulted in many new possibilities
for companies to improve cash management practices. Practically any small rm can
nowadays easily utilise cash management and nancial services provided by banks and
other companies in the private sector. Therefore, a new quantitative study on cash
management practices of small rms could be made by considering these new alternatives
to ecient and easy cash management. Such a study could preferably also be made in
a Swedish or European context.
A second suggestion for further research is to repeat this qualitative study by
adding more companies to the research sample. The issue at focus would in that case
be to get a broader understanding of why managers behave the way they do in regards
to cash management. This could for instance be done by including theory explaining
40
the decision-making process of small rm business managers from a managerial point of
view.
41
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43
Appendix A - Interview Template
Background
When was the company founded?
What is the core business of the company?
How many employees does the company have today?
What was your turnover last year?
How is the organisation structured?
What is the ownership structure?
Who are the primary customers of the company? How many customers do you
have?
An Introduction to Cash Management
What does cash management mean to you and the company?
Do you believe that cash management is an important tool for a well-functioning
organisation?
Does the company actively work with cash management? Do you believe there is
room for improvement?
Is the cash management work connected to a general nancial strategy?
The Inward Cash Flow Process
Agreement Process
Describe how agreements are formed with customers.
Is there room for negotiating agreement terms with customers?
Are there ways to improve the room for negotiations with customers?
Are the terms standardised or do they dier between customers?
Terms of Payment
How are terms of payments negotiated?
Which payment terms are applied? E.g. how long credit times are used? How is
the due date negotiated?
Do you demand higher price to compensate for extended credit time?
Would split payment be an option?
How is credit risk towards customer handled? Do you check the creditworthiness
of the organisations current and new customers? How?
Are customer payment patterns analysed for the companies most important cus-
tomers? Do you follow up the payment pattern?
44
Are cash discounts applied?
Which payment method is used? E.g. bank checking.
How is penalty interest negotiated?
How are reminder fees negotiated?
Terms of Delivery
Are delivery terms and delivery method stated in detail?
Order
Are orders checked to see if they correspond to the initial proposal?
Invoicing
What are your invoice routines? What is the procedure from timesheets to sent
invoice?
Who is responsible for the invoice handling?
Is there always someone who is responsible for the invoicing? (e.g. when someone
is ill)
When and how often do you send invoices?
How are nished services reported? What are the routines?
How are invoices distributed? Are e-invoices used?
What does an invoice look like?
What does a credit note look like?
Do invoice errors occur? How often?
What are the underlying reasons why errors occur?
How many credit notes are sent? Which are the main reasons why they are being
sent?
What is the average utilised credit time?
How many invoices have been sent 2009, 2010, 2011?
How are they distributed throughout the year? Are there any seasonal patterns?
Dunning activities
How are claims handled? What are the routines?
What are your reminder routines?
Do you apply penalty interest on delayed invoices?
How often do you actually charge penalty interest when it is possible?
Are there routines on how to handle dunning?
45
Managing Liquidity
Liquidity Level
Have you established an aim of the liquidity level? Why is this level appropriate
for you? On what ground is it established?
What should the liquidity cover?
How do you act to keep in course with this aim?
How do you handle cash surpluses? Short-term placing?
How do you handle cash decits? Short-term nancing?
Theoretically, a zero balance is cost ecient. What is your opinion? Is it realistic
to hold no cash?
Do you consider holding too much cash as inecient?
Which bank do you use and what services do they oer?
Which accounts do you use and what are the returns of these accounts? To which
account do payments arrive?
Low market interests currently make it favourable to borrow at low cost and less
favourable to hold cash since the return is relatively low. Does this fact aect your
liquidity level?
How do you place your cash in the long term?
Liquidity Forecasting
How do you work with liquidity planning?
Do you establish liquidity forecasts? How are they designed and what do they
contain? Do you forecast in the long and short terms?
Do you consider your forecasting eective and do the forecasts correspond to the
actual outcome?
Do you try to match in- and outows or do cash ows occur randomly?
Is the timing of in- and outows an issue? Are they volatile?
Do you think a more ecient liquidity forecasting could benet your cash ow?
46