Working Capital Management - Cash Flashcards
(15 cards)
List the 3 reasons for holding cash
[Transaction motive: Day-to-day transactions].
[Precautionary motive: Uncertainties of future cash flows].
[Speculative motive: To avail of unexpected opportunities].
List some cash flow challenges
1) Making losses
2) Inflation: Businesses need ever increasing amounts of cash to fund replacement of necessary assets.
3) Growth: When a business is expanding it needs funds to invest in non-current assets and working capital.
4) Seasonal Business: Cyclical sales patterns can lead to cash flow imbalances.
5) One-off items of expenditure: Single non-recurring item of expenditure e.g. repayment of loan or purchase of exceptionally expensive item.
List some methods of easing cash flow problems.
1) Postponing non-essential capital expenditure.
2) Accelerate cash inflows: follow up actively with trade receivables, offer discounts for early payments etc.
3) Reduce or postpone cash outflows: longer credit from suppliers, negotiate a rescheduling of loan repayments etc.
List some factors affecting the level of cash maintained by a business.
1) Nature of the business - are there predictable cash flows.
2) Availability of borrowing - can reduce cash holdings.
3) Cost of borrowing - higher interest rates may increase cash holdings.
Economic conditions - recession may cause increased cash holdings.
What is the cash conversion cycle?
The period between cash paid to purchase inventories and the receipt of cash from the sale of goods.
What are the benefits of preparing a cash budget?
To manage cash effectively, it is useful for a business to prepare a cash budget. By doing this, future cash needs may be highlighted and the business can plan to meet these needs and control liquidity.
Why should businesses invest temporary surplus funds?
Most firms have temporary surplus funds kept for future business requirements. The objective is to earn a return on these funds in the short-term.
What types of funding policies can a business have?
Conservative funding policy or Aggressive funding policy
Characteristics of a conservative funding policy
Involves maintaining a high level of cash, inventory and receivables, reducing risk but lowering profitability.
Characteristics of an aggressive funding policy
Minimises working capital to enhance profitability but increases liquidity risk.
What is overtrading/undercapitalization?
Overtrading, also known as undercapitalization, occurs when a company is operating at a level of activity that cannot be supported by the amount of finance that has been committed.
Define the term working capital cycle?
The term working capital cycle refers to the length of time between the purchase of raw materials and the inflow of funds from the sale of goods.
When might overtrading occur?
In new, expanding businesses that fail to prepare adequately for the rapid increase in demand for their goods and services].
As a result of inflation, causing more finance to have to be committed to inventories and trade receivables].
When the owners are unable to inject further funds into the business themselves and/or they cannot persuade others to invest in the business].
How can a business deal with the problem of overtrading?
Source more equity financing - as opposed to debt - where interest payment would have to be met].
Better working capital management].
Reduce business activity - abandon plans to increase sales, purchase non-current assets until company has time to consolidate its position and increase its capital base].
What is the benefit of upper and lower control limits for cash?
The business maintains two upper and two lower limits. If the business exceeds the outer limit, the manager must decide whether cash is likely to return to a point within the inner control limit over the next few days. If not, they must change their cash position by buying or selling marketable investments.
