5.2: Forecasting and cash flows Flashcards
Def. Cash Flow
Record of the cash received by a business over a period of time and the cash outflows from the business.
Def. Liquidation
When a firm ceases trading and its assets are sold for cash to pay suppliers and other creditors
Def. Iliquid
When a business cannot meet its short term debts
Why is cash flow planning vital?
New business start ups are usually given less credit periods - less time to pay suppliers.
It is hard to convince banks or other lenders to lend if they have no trading record. There is also a need to pay back at the right times.
Def. Cash inflows
Payments in cash received by a business, such as those from customers, debtors or from the bank. e.g receiving a loan.
Def. Cash outflows
Payments in cash made by a business, such as those to suppliers and workers.
Cash vs. Profit
Cash is not the same as profit. It is important to always have enough cash in the short term. Profit can wait to be earned in the long term - but cash payments are always being made.
Structure of cash flow forecasts
- Cash in:
Cash sales, credit sales, total inflow - Cash out:
Raw materials, wages, other costs, total outflow - Net monthly cash flow, calculated by (total cash inflow - total cash outflow)
Def. Opening cash balance
Cash held by the business at the start of the month.
What are the causes of cash flow problems? (5)
Lack of planning
Poor credit control
Allowing customers too long to pay debts
Expanding too rapidly
Unexpected events.
Cash Flow problems: Lack of planning
Cash flow forecasting - planning the future ahead doesn’t prevent any cash flow problems from happening, but it can help prevent the cash flow problems from developing.
Def. Closing cash balance
Cash held at the end of the month becomes next month’s opening balance.
Cash Flow problems: Poor credit control
If the credit control is inefficient, the debtors will not be ‘chased up’ for payment and potential bad debts will not be identified.
Def. Credit control
Monitoring of debts to ensure that credit periods are not exceed.
Def. Bad debt
Unpaid costumers’ bills that are now very unlikely to ever be paid.
Cash Flow problems: Allowing customers too long to pay debts
By allowing customers to pay on credit, it will aid the competition of the business against others. However letting customers too long to pay means reducing short term cash inflows, which would lead to cash flow problems.
Cash Flow problems: Expanding too rapidly
When the business expands rapidly, it has to pay for expansion and increased wages… => overtrading would lead to cash flow shortages.
Def. Overtrading
Expanding a business rapidly without obtaining all of the necessary finance so that a cash flow shortage develops.
Cash Flow problems: Unexpected events
Unforeseen increases in costs - a breakdown of a delivery van that needs to be replaced etc. could lead to negative monthly cash flows.
Ways to improve cash flow? (2)
Increasing cash inflows
* Reducing cash outflows
Ways to increase cash inflows? (4)
Overdraft: Flexible loans businesses can draw up
Sale of assets: Cash receipts obtained from selling redundant assets
Reduce credits terms to customers: Shorten the period of time
Debt factoring: Companies offering immediate cash from the debt
Ways to reduce cash outflows? (4)
Delay payments to suppliers/creditors: Take longer to pay back to decrease short term cash outflows
Delay spending on capital equipment
Use leasing instead of purchasing equipment
Cut overhead spending that does not directly affect output e.g. promotion costs
Ways to manage working capital?
4 components need to be managed:
* Debtors
* Creditors
* Inventory
* Cash
How to manage creditors? (2)
Increasing the range of goods and services bought on credit
Extend the period of time taken to pay
How to manage debtors? (3)
Not extending credit to customers -extending it for shorter time periods
Selling claims on debtors to specialist financial institution acting as debt factoring
By discovering whether new customers are creditworthy
How to manage inventory? (3)
Keeping smaller inventory levels
Using computer systems to record sales and inventory levels to order as required
Just in time production method
How to manage cash? (3)
Use cash flow forecasts
Wise use of investment of excess cash
Arranging overdrafts when there might be too little cash
