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Essay On Cash Management

Cash Management Essay

The management of cash is essential to the survival of any organization. Managing an organization’s financial operation requires knowledge of the economy and ways to maximize revenue. For any organization to operate on a daily basis adequate cash flow is required. Without cash management the organization will be unable to function because there is no cash readily available in case of inconsistencies in the market. Cash is also needed to keep the cycle of the company’s operations going.
Many organizations have maximized the use of cash on hand by effective cash management techniques and the use of short-term financing. This paper will discuss various cash management techniques and short-term financing methods used by organizations.
Cash Management Techniques
There are many techniques used to manage cash including, the nature of asset growth, controlling assets, patterns of financing, the financing decision, a decision process and shifts in asset structure. For any company the growth of asset results in a growth in wealth if managed effectively. The typical firm usually forecast the rate of sales to ensure that the production of goods match sales so there is not an overflow if inventory. As a company expands and produces more items they will acquire permanent current assets. Permanent current assets can be described as a constant inventory of items because it is almost impossible to predict the market and the demands of the consumer.
In order to facilitate the growth of assets a firm must control its assets by matching production and sales. To manage sales and productions, organizations “employ level production methods to smooth production schedules and use manpower and equipment efficiently at a lower cost” (Block & Hirt, 2005, Chapter 6, p 3).
Short term financing
There are many short-term financing methods that are used by firms. In the business world companies are always trying to maximize their earning potential by strategically investing in short-term financing. In terms of finance short-term may mean months or even a couple of years. The type of finance method that is used is contingent on the specific needs of the corporation. These methods include trade credit, bank credit, financing through commercial paper, foreign borrowing, and the use of collateral, accounts receivable financing, inventory financing and hedging to reduce borrowing risk.
Trade credit is the practice of purchasing goods now and paying for them later. Trade credit is widely used and “is the least expensive and most convenient form of short-term financing” (McHugh, McHugh & Nickels, 1999, p. 573). When a company purchases goods on credit an invoice is received outlining the terms of repayment. An invoice contains terms such as 2/10, net 30. The total bill is due in 30 days, but the supplier has extended a discount if the amount is paid in full within 10 days. Finance managers use the information on the invoice to perform an analysis to find out if the...

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An important part of the capital budgeting process is the estimation of the cash flows associated with the proposed project. Any new project will cause a change in the firm’s cash flows. In evaluating an investment proposal, we must consider these expected changes in the firm’s cash flows and decide whether or not they add value to the firm. Successful investment decisions will increase the shareholders’ wealth through increased cash flows.

Valuing projects by estimating their net present values (NPV) of future cash flows is a means of gaining an idea of their expected addition to shareholder wealth. Correct identification of the relevant cash flows associated with an investment project is one of the most important steps in the calculation of NPV or in the project appraisal. Cash flow is a very simple concept, although it is easily confused with accounting profit or income. Cash flows are simply the dollars received and dollars paid out by the firm at particular points in time. Cash flows are important because they easily measure the impact upon the firm’s wealth. Profit and loss in financial statements do not always represent the net increase or decrease in cash flows. Cash flows occur at different times and these times are easily identifiable. The timing of flows is particularly important in project analysis. Some of the figures in standard financial statements, such as income statements or profit and loss accounts, may not have a corresponding cash flow effect for the same period; some of their actual cash flows may occur in the future or might already have occurred in the past. For example, a sale on credit is recorded as occurring on the day the transaction takes place while the actual cash inflow may occur many weeks or months later.

In order to evaluate a business, the cash flows relevant to the project have to be identified. In simple terms, a relevant cash flow is one which will change (decrease or increase) the firm’s overall cash flow as a direct result of the decision to accept the project. Relevant cash flows thus deal with changes or increments to the firm’s existing cash flows. These flows are also known as incremental or marginal cash flow.

Business evaluation rests upon incremental cash flows. Incremental cash flows are the cash inflows and outflows traceable to a given project, which would disappear if the project disappeared. The incremental cash flows can be measured by comparing the cash flows of the firm ‘with’ the project and the cash flows of the firm ‘without’ the project. For analytical purposes business cash flows may be separated into two categories: capital cash flows and operating cash flows. Capital cash flows may be disaggregated into three groups: (1) the initial investment (2) additional ‘middle-way’ investments such as upgrades and increases in working capital investments, and (3) terminal flows. These are all cash flows and the distinctions among them are only to facilitate the convenient identification of the different categories.

The largest single capital flow is traditionally the initial investment. This is also called the ‘initial capital outlay’ or just ‘capital expenditure’. Initial capital outlay generally involves the cash outflows required to start a project by purchasing or creating assets and putting them into working order. As such, the necessary expenditures to establish sufficient working capital for the project and the installation costs of the machines purchased are included in the initial capital outlay. The word ‘initial’ is quite important. It denotes both the amount to ‘initiate’ or ‘start’ the project, and the time at which this outlay occurs. Once the initial investment is made and the project is in operation, the project is expected to generate cash flows over its economic life. These flows are called operating cash flows and include: cash inflows from sales, cash outflows for advertising and marketing, payments for wages, heating and lighting bills, and purchases of raw materials…

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