Topic 3- Cash Flow Statement Flashcards
Why is cash analysis important to management’s decision making activities?
Cash analysis is important to management’s decision making because it facilitates an understanding of the business’ cash position. The cash position of the business reflects the liquidity of the business, that is, the amount of funds the business has at its disposal. This liquidity in turn governs opportunities for improving the profitability of the business, and therefore has a direct influence on decisions regarding:
• the funds which are required for the financing of production activities in the near future (working capital) and for
• financing the immediate or future purchase of income producing assets (investment capital).
Explain the term: Cash Flow
this refers to the flow of actual cash into and out of the business during the particular time period under consideration.
Explain the term: Net Cash Flow
Net Cash Flow -the net cash flow is the overall result of the year’s cash transactions and is determined as follows:
Net Cash Flow =
= Cash Inflow - Cash outflow
= Cash Receipts - Cash payments
Explain the term: Cash Surplus
a cash surplus exists when cash receipts are greater than cash payments.
Explain the term: Cash Deficit
a cash deficit exists when cash receipts are less than cash payments.
Explain the term: Pattern of Cash Flow
The pattern of cash flow refers to the actual timing of receipts and payments. That is, do they occur at regular times throughout the year or do they occur irregularly with no definite pattern.
Explain how and why the pattern of cash flow may differ between intensive and extensive agricultural production industries.
You will usually find that the pattern of cash flow differs substantially between intensive and extensive rural activities, with intensive activities tending to have a more stable or regular pattern of cash flow as compared to that experienced by extensive activities. This arises because intensive production activities have shorter production periods and during these periods cash transactions occur on a more frequent basis.
Explain the purpose of a cash flow budget.
The purpose of a cash flow budget is to determine the business’s expected cash receipts and payments for the budget period. To put it another way, a cash flow budget will indicate the amounts of money which are expected to directly influence the business’s bank balance during a specific future time period.
Why is the ‘pattern of cash flow’ important in cash flow budgeting?
The pattern of cash flow refers to the timing of the expected cash receipts and payments throughout the year. It is obviously important because this timing is precisely what the cash flow budget will be based upon.
List the sources of information for a cash flow budget.
The sources of information for a cash flow budget will be:
• the previous year’s cash flow statement which provides an excellent basis for the cash flow budget
• the production budget (physical budgets) such as livestock and crop schedules, and retail/merchandising inventory schedules
• estimates of costs and prices which come from:
- government publications
- consultants and advisors
- marketing agencies
- education or research centres - magazines and newspapers.
• The income and cost information included in the gross margin/contribution margin budgets.
Explain the importance, from a management perspective, of cash flow budgets.
In general the cash flow budget is important because:
• opportunities to improve the profitability of the business are governed by the future availability of cash - this availability will be identified by the budget.
• decisions regarding working capital and investment capital will be governed by the business’s liquidity - or cash position. This again is shown by the cash flow budget.
More specifically, the cash flow budget is important because of the assistance it provides with regard to:
• financial control
• management of cash deficits and surpluses
• obtaining credit (loans).
Why might the actual cash flow result differ from the budgeted cash flow?
In general, research has shown that any differences which do occur, are mainly a function of three different aspects:
• Planning - failure to implement the plan, that is budgeted physical output (livestock numbers, crop hectarages, number of product units, number of service hours), have not been achieved.
• Output - failure to achieve output/unit due to deviations in yield and/or prices.
• Input - failure to keep inputs to budgeted levels - again due to quantity and/or prices.
Explain the strategies management may implement in order to offset a budgeted cash flow deficit.
Strategies management can adopt in order to offset a budgeted cash deficit include:
• altering sale and/or purchase dates, and by doing so receive cash earlier and/or delay payments. Remember, however, that by bringing sale dates forward, one may take the risk of marketing produce prematurely and as a result receive a lower sale price than would have been received had the produce been sold at the optimum time.
• reduce expenditure. If this course of action is adopted, there is a strong possibility of future cash receipts being adversely affected.
• disposal of (capital) assets, in order to provide early cash inflow. Once again there is a danger in adopting this strategy - if income earning assets are sold, there will be a reduced cash inflow, not only in the immediate future, but also in the longer term.
• a complete replanning of the business’s operations. This could only be carried out if the budgeted deficit is discovered early enough to allow replanning and thus a new cash flow budget.
• arrangement of appropriate carry-on finance from the bank or another finance supplier.
Explain the strategies management may implement in order to utilize a budgeted cash flow surplus.
- undertake profitable internal investment (i.e. within the business) such as the purchase of land, livestock and additional or replacement machinery.
- undertake profitable external investment - for example, investment in real estate (houses, flats, business premises, building blocks), an additional small or large business, shares in public companies. The objective is to provide another source of income which may provide continuing cash flow in those times when your traditional line of business is experiencing some kind of depressed business conditions
- bring forward planned times of large expenditure. For example the purchase of new large replacement machinery. Such action can often lead to cost savings, discounts, and/or taxation advantages.
- Invest short term surpluses on the short term money market. This enables sums of cash which are only available for period like 30 - 90 days to be invested in order to generate income.
