The Need For Cash Management


How much cash should a company keep on hand or “on short call” at a bank? The more cash which is on hand, the easier it will be for the company to meet its bills as they fall due and to take advantage of discounts. However, holding cash or near equivalents to cash has a cost in terms of the loss of earning which otherwise have been obtained by using the funds in another way. The financial manager must try of balance liquidity with profitability.

We have already introduced the operating cycle, which connects investment in working capital with cash flows. Cash flow problems can arise in several ways.

o Making losses

If a business is continually making losses, it will eventually have cash flow problems.

Just how long it will take before a loss-making business runs in to cash flow trouble will depend on. (1). How big the losses are; & (2). Whether depreciation charge is big enough to create a loss despite a cash flow surplus. In such a situation, the cash flow troubles might only begin when the business needs to replace fixed assets.

Additional Aspects of Incremental Cash Flow Analysis

cash flowThe incremental principle should be carefully used in determining an investments flows. All flows occurring because of the investment consideration should be included. Cash flows, which would occur otherwise, whether or not the project is undertaken, should not be taken into account. Similarly, which have occurred before the consideration of an investment, are irrelevant in taking the decision now. The following examples of some more aspects of incremental flow analysis.

• Allocated overheads
Firms generally have a practice of allocated budgeted general overheads to projects, including the new projects under consideration. Since the general overheads will be incurred whether or not the new projects are undertaken, those allocated overheads should be ignored in computing the net cash flows of an investment. However, some of the overheads may increase because of the new project; these specific to the project should be charged to the project. The incremental cash flow rule indicates that only incremental overheads are relevant. The allocation of overheads is a difficult question in practice. One or two investment projects may not cause any change in overhead items such as supervision, rent, employees’ welfare or accounting. But the total effect of many investments may ultimately result in an increase in overheads. This creates a problem of cash flow estimation. It is difficult to know when the overheads will change. Efforts should be made to identify such changes so that they may be included in the calculation of net cash flows.

• Opportunity costs of resources
Sometimes a proposed investment project may use the existing resources of the firm for which explicit, or adequate, cash outlays may not exist. The opportunity cost of such projects should be considered. Opportunity costs are the expected benefits, which the company would have derived from those resources if they were not committed to the project.

Assume, for example, that the company is considering a project, which requires 7000 cubic area. Also suppose that the firm has 10000 cubic feet area available. What is the cost of the area available within the firm if it is used by the project? One answer could be that since no cash outlay is involved, therefore, no charges should be made to the project. But from the point of the alternative investment opportunity foregone by transferring this available area to the project, it seems desirable to charge the opportunity cost of the area to the project. Suppose that the company could rent the area at 18$ per cubic feet, and then 126000$ should be considered as the opportunity cost of using the area. The opportunity cost of the other resources can also be computed in the same manner. It may be sometimes difficult to estimate opportunity cost. If the resources can be sold, its opportunity cost is equal to the market price. It is important to note that the alternative use rule is a corollary of the incremental cash flow rule.

• Incidental effects
An investment project under consideration may influence the cash flow of other investment opportunities, or the existing projects or products. The incremental cash flow rule applies here; it tells us to identify all cash flows, direct or incidental, occurring as a result of the acceptance of an investment opportunity. It is, therefore, important to note that all incidental effects, in terms of cash flows, should be considered in the evaluation of an investment opportunity.

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Cash for Business

smaller-vc-funds-work-betterRaising money for business can be a very useful and potential litigious activity if not done properly. It is important to keep certain rules/laws in mind so that you and your potential investor(s) are on the same page throughout the entire process. Raising venture capital from business angels or a venture capital firm is no easy task however, but it is possible with all the right ingredients.

Seven Essential Rules When Raising Money

1. Always have a complete, written, professional business plan.

2. Always tell the potential investor that the worst case scenario is that they can lose their money.

3. Make sure your assumptions section of your business plan is extensive, accurate, and professional.

4. Have a CPA (Certified Public Accountant) prepare your cash flow projections using the NPV (Net Present Value) break-even point.

5. Dress conservatively. Men wear a blue suit, white shirt, and a red tie, for example.

6. Be confident and look them directly in the eye when presenting to U.S. prospects.

7. Have your attorney review any agreement before signing.

When presenting to an l investor always have your written business plan with you and use it during your meeting with your prospective investor. This is extremely important. When the investor asks to see your business plan, you better have one or you are dead in the water. Not having one is truly a deal killer. If you are empty-handed, you will look amateurish and hurt your credibility. Not having a business plan is like showing up to play football and purposely leaving the football at home. It is your most valuable and most essential tool set when seeking money for business.

Cash for business when you start up and continuous cash flow are two of the most critical factors that determine whether you survive long enough to have a chance to thrive and become profitable. The old adage “cash is king” holds very true here; it is liken unto a beating heart, if it stops, you are no longer living. If your cash flow stops or you run out of cash for business operations, then you are out of business. Often times business angels will agree to provide initial and future funds for business. Future funds for your business are often tied to benchmarks that you will set together when you start your financial relationship.

When dealing with private investors (angel investors), they already know that the worst case scenario is that they could lose their money. If you do not acknowledge this well known fact as being true, they may feel that you are deceiving them, and rightfully so. By getting this out in the open, you become a truth-teller, an honest broker, and as such, more trustworthy.

The assumptions section of your plan is your logic, reasoning, and basis for your conclusions. This shows the potential investor how you think, what you know, and how well you can apply what you know to a business situation. This section is a double-edged-sword. It can be your best friend if you are savvy and know what you are doing, or it can be your worst nightmare if your assumptions are grounded in fantasy instead of fact. The cash flow projections are also a particularly important part of your business plan and should be prepared by a CPA.

The conservative dress mentioned in rule number 5 has been studied and found to increase your ratio of sales closed to number of presentations given. Go with what works, regardless of the urge to dress differently. Be confident and look them in the eye for U.S. prospects. There are other cultures that you should not look in the eye as much, so do your homework if presenting to international prospects and find out their culture norms in advance. This paints a positive picture in your U.S. prospect’s mind, one of confidence, sureness, and honesty.

Have any agreements that your private investor (angel) may offer reviewed by an attorney before you consider signing. Do not fall victim to the pressure of urgency. Take a day to think it over and present it to your attorney. You will look more intelligent to them and will be able to make a much more informed decision.