chapter 17: CASH AND MARKETABLE SECURITIES

Cash and marketable securities are current, liquid assets

that companies may use for a variety of reasons, such as to pay
its business obligations, to support its viability during a period of
reduced sales or an economic downturn or to earn interest for a
short period of time before being used for a significant
acquisition. Like most people, many companies prefer to keep a
reserve of cash and marketable securities on hand that can easily
be sold for cash to cover unanticipated expenses or losses. While
cash is readily available legal tender, marketable securities are
short-term investments that are routinely sold on exchanges,
have a readily determined fair market value and can be converted
into cash at any time. The most common types of marketable
securities are commercial paper, banker's acceptances, treasury
bills and other money market instruments.
Marketable securities are highly liquid, short-term securities
that tend to have maturity dates of less than one year. Companies
invest in marketable securities to recoup relatively higher interest
rates while retaining the convenience of being able to easily
convert these securities into cash should the need arise.
Both cash and marketable securities are used by businesses
to pay their bills as they fall due.
Reasons for holding or investing in securities:
1. Transaction Motive to meet payments arising in the
ordinary course of business
When a firm has cash reserves for planned payments they
usually invest these to earn income until such a time as the
funds are needed. Any time the firm is in need of the funds, the
company can easily sell these securities and turn in back to
cash
2. Safety Motive to maintain a cushion or buffer to meet
unexpected cash needs
Marketable securities are safe investments. They are very
salable. They are earning from the investment instead of

leaving it as a deposit in the bank where it earns very little

interest.
These investments can be easily converted to cash
without a possible reduction in its value. Therefore, the
company can satisfy any unexpected demand for cash.
3. Speculative Motive to take advantage of temporary
opportunities
Many companies who have excess funds are looking for
investment outlets to earn more rather than leaving the deposit
in the bank. They buy these marketable securities when the
prices are low and sell such securities when the prices are
better. In the process, they earn income from the buying and
selling of such securities.
Marketable Government Securities
An unconditional debt obligation of the government. These
are short-term and are marketable because it is the government
that is the issuer.
These are always paid at maturity, risk-free, and strong in
the secondary market. However, the yield is lower than other
securities.
Popular Marketable Government Securities:
1. Treasury Notes obligations of the Philippine Government
issued weekly on auction basis. Maturity runs from 90 181
days depending on the issue
2. Treasury Bills direct unconditional and general obligations
of the government
3. Central Bank Certificate of Indebtedness tax free and
earns a reasonable rate of interest; eligible for reserves and
are accepted as collaterals for loans
4. Land Bank Bonds obligation of the Land Bank
Efficient Management of Cash

Production, sales techniques, collection of sales receipts and the

date of payment for their purchases influences the cash balances
or stock of cash balances.
With proper management for these cycles, the firm does not have
to maintain high level cash and high level of investment in
marketable securities.
High cash and marketable securities = lower profitability
Operating Cycle the amount of time it takes the firm to input
the raw materials and labor into the productive process to the
point when the cash is collected from the sale of the finished
product

Two aspects of Operating Cycle

1. Average Age of Inventory
2. Average Collection Period
How the firm manages cash conversion cycle
Cash Conversion Cycle = (# of days in operating cycle
average payment period)
One of the best ways to boost cash flow is to improve
management of your cash conversion cycle. This is the movement
of cash through your business as products are manufactured and

sold, payment is collected, and cash is converted back into raw

materials and inventory once again.
Its important to calculate your companys cash conversion
cycle to determine if you will have enough liquid capital to keep
operations running.
The challenge in managing the cash conversion cycle is to
reduce the number of days and the resulting cash flow lag. Or in
other words, the goal is to convert the cash used in the inputs
(raw materials, inventory, wages, rent, utilities, etc.) required to
manufacture and distribute products into collected receivables
more quickly.
Strategies available to the firm in managing its cash
conversion cycle
1. Delay payment of accounts payable as far as you can
without sacrificing the credit standing of the firm
Study the tradeoff between delaying payment and the
advantage of taking a cash discount for early payments.
You should always pay invoices according to the terms
youve negotiated with your suppliers, but youll receive no
benefit from paying early. Work closely with your accounting
department to set up a payables management system in which
all invoices are paid as close to the due dates as possible.
2. Inventory turnover should be as quick as possible
Only be sure to avoid depletion of stocks which may result
to loss of sales. Increase in inventory turnover may also
increase raw materials turnover which can shorten the
production cycle which results in the reduction of financing
required. Therefore, results to a shorter CCC.

3. Accounts receivable should be collected as soon as

possible
Be sure to take into consideration the possible loss of
future sales. Accounts receivable, just like inventories tie up
money that could otherwise be invested to earn more or could
be used to pay debts to reduce financing charges. Strategies in
collecting accounts receivable is to shorten their payment
terms and offering discounts for paying early.
4. Use two or more strategies
It is important that when a firm uses a combination of
such strategies, such as stretching accounts payable, it should
take care not to the damage its credit rating. By using high
pressure collection technique it should not sacrifice possible
future sales of the business. It should also avoid having a large
number of stocks that are out on credit.
Types of Float
1. Collection Float
Refers to the delay between the time the draft or check is
issued by the drawer to the actual time when such checks or
drafts are actually collected by the payee.
2. Disbursement Float
Refers to the time involved when the drawer issues a check
and the time it is actually debited or deducted from his bank
account.
3. Mail Float
Refers to the delay between the time a drawer mails the check
or draft to the payee and the time the payee receives the check
or draft.
4. Processing Float
Refers to the delay involved between the receipt of the check
or draft by the payee and his depositing it with his bank.
5. Clearing Float

Refers to the delay involved from the time the check or draft
was deposited to the time the funds become available for
spending.
Techniques in Cash Management
A. Taking Advantage of Float
Float refers to the payments made in the form of checks or
drafts that can be used by the payee to discharge his
obligations although debit of such check or draft will be done
against the account of the drawer at a future date.
B. Enhancing Collection Process
Main objective here is to minimize collection float and make
the funds available for spending at the earliest possible time.
1. Concentration Banking
Firms with customers scattered over a wide area most often
designate particular banks or offices as collection centers.
Banks immediately credit the firms' accounts as a cash deposit.
If the deposit made is a check, it will still undergo clearing
which will take a few more days depending on how far the bank
is from the clearing house. Banks may also have their branches
or correspondent banks which will also reduce the clearing
float. A correspondent bank is a bank located in a local or
foreign country that services the needs of the other banks. In
this way transactions with businessmen in the provinces or
foreign countries can be conducted through a correspondent
bank.
2. Lockbox System
System which reduces processing float as well as mailing
float. The payer (drawer) sends the check to a post office box
or in a lock box in the firm's bank and this is emptied by the
bank one or more times each business day. This payment
received by the bank is deposited to the firm's account. The
firm may be notified by the bank either by sending the
duplicate of the deposit slip or through a computer file

whichever the arrangement agreed upon by the bank and the

businessman. This system allows the firm to use the funds
immediately as the need arises. Here, mail float is almost
eliminated because the bank usually sends its messenger to
pick up the payment at the post office or empties the lockbox
several times a day.
3. Direct Collection
This is a system where by the businessman can directly
encash the check in the bank where it is drawn against,
instead of depositing it with the bank where clearing will entail
several days. If the businessman is in dire need of the fund he
may use this system.
4. Automated Clearing House Debit
This is a paperless transfer of funds between the payer and
the payee of the bank. It is a pre-authorized electronic
withdrawal from the payer's account to the payee's account.
These are usually done among participating banks where
individual depositor's account is settled by respective bank
balance adjustments.
5. Minimize Disbursement
The firm should as much as possible go slow in making
payment to its creditors to conserve its available funds. There
are several ways of doing this.
a) By taking advantage of the float that may occur from the
time the check is issued to the time it is actually collected by
the payee. Their main objective is to keep their funds in an
interest-earning form, while the checks they issued are
undergoing the collection, processing and clearing float.
b) By arranging for an overdraft line with the bank
A customer may open an overdraft line with his bank. This
overdraft line allows him to have ready funds to meet his
obligations. In case the current account deposit of the

customer is insufficient to pay the checks presented against

his account the bank stands ready to lend the amount needed
to fund the checks. Over drawings are only limited to the
agreed amount. He only pays interests on overdrawn funds. No
interest will be paid on unused overdraft line. It is important
therefore that the customer should only use it when necessary
in order to avoid paying interest. Banks require collaterals
when opening overdraft lines.