SESSION 2.pdf_Financial Management__________

Financial Management

1. Module:1:
Management of
Cash

2. CASH PLANNING
Cashplanningisatechniquetoplanandcontroltheuseof
cash.Ithelpstoanticipatethefuturecashflowsandneedsof
thefirmandreducesthepossibilityofidlecashbalances
(whichlowersfirm’sprofitability)andcashdeficits(whichcan
causethefirm’sfailure).
Cashplanningprotectsthefinancialconditionofthefirmby
developingaprojectedcashstatement,fromaforecastof
expectedcashinflowsandoutflows,foragivenperiod.The
forecastsmaybebasedonthepresentoperationsorthe
anticipatedfutureoperations.Cashplansareverycrucialin
developingtheoveralloperatingplansofthefirm.

3. CASH PLANNING
Cashplanningmaybedoneondaily,weeklyormonthlybasis.
Theperiodandfrequencyofcashplanninggenerallydependsuponthe
sizeofthefirmandphilosophyofthemanagement.
Largefirmspreparedailyandweeklyforecasts.
Medium-sizefirmsusuallyprepareweeklyandmonthlyforecasts.
Smallfirmsmaynotprepareformalcashforecastsbecauseofthe
nonavailabilityofinformationandsmall-scaleoperations.
But,ifthesmallfirmspreparecashprojections,itisdoneonmonthlybasis.
Asafirmgrowsandbusinessoperationsbecomecomplex,cashplanning
becomesinevitableforitscontinuingsuccess.

4. Cash Forecasting and Budgeting
CashBudget-
Cashbudgetisthemostsignificantdevicetoplanforand
controlcashreceiptsandpayments.
Acashbudgetisasummarystatementofthefirm’sexpected
cashinflowsandoutflowsoveraprojectedtimeperiod.
Itgivesinformationonthetimingandmagnitudeofexpected
cashflowsandcashbalancesovertheprojectedperiod.
Thisinformationhelpsthefinancialmanagertodeterminethe
futurecashneedsofthefirm,planforthefinancingofthese
needsandexercisecontroloverthecashandliquidityofthe
firm.

5. Cash Forecasting and Budgeting
Thetimehorizonofacashbudgetmaydiffer
fromfirmtofirm.
Afirmwhosebusinessisaffectedbyseasonal
variationsmaypreparemonthlycashbudgets.
Dailyorweeklycashbudgetsshouldbe
preparedfordeterminingcashrequirementsif
cashflowsshowextremefluctuations.
Cashbudgetsforalongerintervalsmaybe
preparedifcashflowsarerelativelystable.

6. Cash Forecasting and Budgeting
CashForecast-
Cashforecastsareneededtopreparecashbudgets.
Cashforecastingmaybedoneonshortorlong-term
basis.
Generally,forecastscoveringperiodsofoneyearorless
areconsideredshort-term;thoseextendingbeyondone
yearareconsideredlong-term.

7. Short-term Cash Forecasts
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.

8. Short-term Cash Forecasting
Methods
Two most commonly used methods of short-term cash
forecasting are:
1.The receipt and disbursements method
2.The adjusted net income method.

9. Short-term Cash Forecasting
Methods
Receipts and disbursements method:
Cash flows in and out in most companies on a
continuous basis.
The prime aim of receipts and disbursements forecasts is
to summarize these flows during a predetermined period.
In case of those companies where each item of income
and expense involves flow of cash, this method is
favouredto keep a close control over cash.

10. Short-term Cash Forecasting
Methods
Receipts and disbursements method:
Three broad sources of cash inflows can be identified:
(i) operating, (ii) non-operating, and (iii) financial.
Cash sales and collections from customers form the most important part of
the operating cash inflows.
Developing a sales forecast is the first step in preparing a cash forecast.
All precautions should be taken to forecast sales as accurately as possible.
In case of cash sales, cash is received at the time of sale.
On the other hand, cash is realized after sometime if sale is on credit.
The time in realizing cash on credit sales depends upon the firm’s credit
policy reflected in the average collection period.

11. Short-term Cash Forecasting
Methods
Receipts and disbursements method:
The virtues of the receipt and payment methods are:
It gives a complete picture of all the items of expected cash flows.
It is a sound tool of managing daily cash operations.
This method, however, suffers from the following limitations:
Its reliability is reduced because of the uncertainty of cash forecasts.
For example, collections may be delayed, or unanticipated
demands may cause large disbursements.
It fails to highlight the significant movements in the working capital
items.

12. Short-term Cash Forecasting
Methods
Adjusted net income method
This method of cash forecasting involves the tracing of
working capital flows. It is sometimes called the sources
and uses approach.
Two objectives of the adjusted net income approach are:
(i)to project the company’s need for cash at a future
date and
(ii)to show whether the company can generate the
required funds internally, and if not, how much will have
to be borrowed or raised in the capital market

13. Short-term Cash Forecasting
Methods
Adjusted net income method
It is, in fact, a projected cash flow statement based on pro forma
financial statements.
It generally has three sections:
1.sources of cash,
2.uses of cash and
3.the adjusted cash balance.
This procedure helps in adjusting estimated earnings on an
accrual basis to a cash basis. It also helps in anticipating the
working capital movements

14. Short-term Cash Forecasting
Methods
Adjusted net income method
The benefits of the adjusted net income method are:
It highlights the movements in the working capital items, and
thus, helps to keep a control on a firm’s working capital.
It helps in anticipating a firm’s financial requirements.
The major limitation of this method is:
It fails to trace cash flows, and therefore, its utility in controlling
daily cash operations is limited.

15. Long-term Cash Forecasting
Long-termcashforecastsarepreparedtogiveanideaof
thecompany’sfinancialrequirementsinthedistantfuture.
Theyarenotasdetailedastheshort-termforecastsare.
Onceacompanyhasdevelopedalong-termcash
forecast,itcanbeusedtoevaluatetheimpactof,say,
newproductdevelopmentsorplantacquisitionsonthe
firm’sfinancialcondition,forthree,five,ormoreyearsin
thefuture.

16. Long-term Cash Forecasting
Themajorusesofthelong-termcashforecastsare:
Itindicatesascompany’s futurefinancialneeds,
especiallyitsworkingcapitalrequirements.
Ithelpstoevaluateproposedcapitalprojects.Itpinpoints
thecashrequiredtofinancetheseprojectsaswellasthe
cashtobegeneratedbythecompanytosupportthem.
Ithelpstoimprovecorporateplanning.Long-termcash
forecastscompeleachdivisiontoplanforthefutureand
toformulateprojectscarefully.

17. Long-term Cash Forecasting
Long-termcashforecastsmaybemadefortwo,threeor
fiveyears.Aswiththeshort-termforecasts,thecompany’s
practicesmaydifferonthedurationoflong-termforecasts
tosuititsparticularneeds.
Theshort-termforecastingmethods,i.e.,thereceiptsand
disbursementsmethodandtheadjustednetincome
method,canalsobeusedinlong-termcashforecasting.
Long-termcashforecastingreflectstheimpactofgrowth,
expansionoracquisitions;italsoindicatesfinancing
problemsarisingfromthesedevelopments.