Management of Cash

Cash management refers to management of cash balance and the bank balance and
also includes the short terms deposits. Cash is the important current asset for the
operations of the business. Cash is the basic input needed to keep the business running
on a continuous basis. It is also the ultimate output expected to be realised by selling
the service or product manufactured by the firm. The term cash includes coins,
currency, and cheque held by the firm and balance in the bank accounts.
Factors of Cash Management: cash management is concerned with the
managing of:
1.cash flows into and out of the firm
2.cash flows within the firm and
3.cash balance held by the firm at a point of time by financing deficit or investing
surplus cash.

Cash Management Cycle

Sales generate cash which has to be disbursed out. The surplus cash has to be invested
while deficit has to borrow. Cash management seeks to accomplish this cycle at a
minimum cost and it also seeks to achieve liquidity and control.

Facets of Cash Management: In order to resolve the uncertainty about

cash flow prediction and lack of synchronisation between cash receipts and
payments .the firm should develop appropriate strategies regarding the following four
facets of cash management:

• Cash Planning: Cash inflows and outflows should be planned to project cash
surplus or deficit for each period of the planning period. Cash budget should be
prepared for this purpose.
• Managing the cash flows: The flow of cash should be properly managed. The
cash flow should be accelerated while the cash outflows should be decelerated.
• Optimum cash level: The firm should decide about the appropriate level of cash
balances. The cost of excess cash and danger of cash deficiency should be matched to
determine the optimum level of cash balances.
• Investing surplus cash: The surplus cash balances should be properly invested
to earn profits. The firm should decide about the division of such cash balance
between alternative short –term investment opportunities such as bank deposits,
marketable securities, or inter-corporate lending.
The ideal cash management system will depend on the firm’s product, organisation
structure, competition, culture and options available. The task is complex and
decisions taken can affect important areas of the firm. For example-to improve
collections if the credit period is reduced, it may affect sales.

Motives of holding cash

A distinguishing feature of cash as an asset is that it does not earn any substantial
return for the business. Even though firm hold cash for following motives:
• Transaction motive: This refers to the holding of cash to meet routine cash
requirement to finance. The transactions, which a firm carries on in the ordinary
course of business.

• Precautionary motive: This implies the needs to hold cash to meet

unpredictable contingencies such as strike, sharp increase in raw materials
prices. If a firm can borrow at short notice to pay them unforeseen contingency,
it will need to maintain relatively small balances and vice-versa.
• Speculative motives: It refers to the desire of the firm to take advantage
of opportunities which present themselves at unexpected movements and
which are typically outside the normal course of business.
• Compensatory motive: Bank provides certain services to their client free
of cost. They therefore, usually require client to keep minimum cash balance
with them to earn interest and thus compensate them for the free service so
provided.

Objectives of cash management

There are two basic objectives of Cash Management:

Meeting cash disbursement:
This is the first basic objective of cash management, according to which the firm
should have sufficient cash to meet the various requirement of the firm at different
time period. Cash has been described as “Oil to lubricate the ever turning wheels if
business, without it the process grinds to a stop.”

Minimising funds locked up as cash balances:

In this process the finance manager is confronted with two conflicting aspects. A
higher cash balance ensures power savings with all its advantages. But this will result
in a large balance of cash remaining idle. Low level of cash balance may result in
failure of the firm to meet the payment schedule. The finance manager should,
therefore try to have an optimum cash balance.
Managing your cash balances is one of the most important parts of working capital
management. If an organization runs out of cash resources it will have to stop
operating immediately .There may not even be the money to pay the salaries at the end
of the month, and the banks might have started dishonouring cheques. Furthermore,
the trustees or directors could stand charged with wrongful or fraudulent trading,
which could entail personal liability or even imprisonment.
If the organization has too much liquidity in the long term, it may well be invested in
fairly low return areas, such as bank deposit accounts. Long term surplus should be
invested in making the organization grow.
Cash planning: Cash planning is a technique to plan and control the use of cash. It
helps to anticipate the future cash flows and needs of the firm and reduces the
possibility of idle cash balances and cash deficits. Cash planning protects the financial
conditions of the firm by developing a projected cash statement from a forecast of
expected cash inflows and outflows for a given project. Cash plans are very crucial in
developing the overall operating plans of the firm. Cash planning may be done on
daily, weekly or monthly basis. The period and frequency of cash planning generally
depends upon the size of the firm and philosophy of management.
Cash forecasting and Budgeting: cash budget is the most significant device to
plan for and control cash receipts and payments. A cash budget is a summery
statement of the firm’s expected cash inflows and outflows over a projected time
period. It gives information on the timing and magnitude of expected cash flows and
cash balances over the projected period. This information helps the financial manager
to determine the future cash needs of the firm, plan for the financing of these needs
and exercise control over the cash and liquidity of the firm. The time horizon of a cash
budget may differ from firm to firm. A firm whose business is affected by seasonal
variations may prepare monthly cash budgets. Daily or weekly cash budgets should be
prepared for determining cash requirement if cash flows show extreme fluctuations.
Cash flows for a longer intervals may be prepared if cash flows are relatively stable.

Importance and Significance of Cash Budget

Cash budget is an effective tool of cash management and it may help the management
in the following ways:

1. Identification of the period of cash shortage so that the financial manager may
plan well in advance about arranging the funds at an appropriate time.
2. Identification of cash surplus position and duration for which surplus would be
available so that alternative investment of this excess liquidity may be
considered in advance.
3. Better coordination of the timing of cash inflows and outflows in order to
avoid chances of shortages or surplus of cash.
Cash forecasts are needed to prepare cash budgets. Cash forecasting may be done on
short or long –term basis. Generally, forecasts covering periods of one year or less are
considered short term. Those extending beyond one year are considered long –term.

Short – term Cash Forecast: It is comparatively easy to make short-term cash

forecasts. The important functions of carefully developed short – term cash forecasts
are:

• To determine operating cash requirements.

• To anticipate short – term financing.
• To manage investment of surplus cash.
The short – term forecast helps in determining the cash requirements for
predetermined period to run a business. One of the significant roles of the short –
term forecasts is to pinpoint when the money will be needed and when it can be
repaid.
Other uses:
• Planning reductions of short and long –term debt.
• Scheduling payments in connection with capital expenditure programmes.
• Planning forward purchase of inventories.
• Checking forward purchase of inventories.
• Taking advantage of cash discounts offered by supplies.
• Guiding credit policies.
Long – term Cash Forecasting: Long –term cash forecasts are prepared to
give an idea of the company’s financial requirements in the distant future. They are
not as detailed as the short –term forecasts are. A Company can the impact of new
product development or plant acquisitions on the firm’s financial conditions. The
major uses of the long – term cash forecast are:
• It indicates as company’s future financial needs, especially for its working
capital requirement.
• It helps to evaluate proposed capital projects. It pinpoints the cash required to
finance these projects as well as the cash to be generated by the company to
support them
• It helps to improve corporate planning. Long – term cash forecasts compel
each division to plan for future and to formulate projects carefully.
Long – term cash forecast may be made for two, three or five years. Long –term
cash forecasting reflects the impact of growth, expansion or acquisitions. It also
indicates problems arising from these developments.
Control Aspects: After preparation of cash budget, the Financial Manager should
also ensure that there are no significant difference between the expected cash flows
and the actual cash flows. This requires controlling and reviewing of the whole
exercise on a regular basis.