Working Capital and Cash Management

Working Capital
Management
It is a business strategy designed to ensure that a company

operates efficiently by monitoring and using its current assets
and liabilities to the best effect.
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Working Capital
It is the difference between the firm’s current assets and current liabilities.
It is used as a measure to check the liquidity of the firm.
Working Capital
Having a well-planned working capital, the company can take
advantage of business opportunities to achieve its goal
promptly and meet its financial obligations.
The goal of management is to maintain a cash level at a
minimum without putting the company at risk, thus
maintaining a level of cash that is enough to support the
firm’s operation.
Maintaining too much cash is hazardous to the company.
As the most liquid among the assets, cash is susceptible
to theft.
Working Capital Policies
• Aggressive Policy- promises the highest return but carries

the greatest risk.
• Conservative Policy- has the least risk but also the lowest
expected return.
• Matching Policy- it falls between the two extremes. It is

where the current assets of the business are used to
perfectly match the current liabilities.
How is Working Capital Managed?
Financial Ratios plays a crucial role in managing working capital.
Looking Ex.
If a firm has a high current ratio coupled with a high quick
ratio.
at the
This condition gives the firm a high level of either cash,
financial accounts receivable,marketable securities.
ratios Having a very high investment in cash is risky because of its

susceptibility to theft. Too many receivable may lead to non-
collection and cash shortage.
Internal control has an important part in securing the working

capital of the firm.
Putting
Proper internal control of cash
mishandling, or misappropriation.
averts theft, up
Proper internal control of inventories prevents
proper
unauthorized releasing of goods from the warehouse and
proper internal control of receivables disallows the non- internal
recording of cash collections.
control.
Policies serve as a guideline in executing the transactions
Changing and activities of the company. However, if the existing

policy does not contribute to the general welfare of the
firm, changing it would be a better option.
company
policies.
Cash Management
What is Cash?
Cash is a current asset used to purchase raw
materials, pay for labor, buy capital assets,
and pay for dividends , taxes and obligations.
The objective of cash management is to minimize the use
of cash and maintain optimum cash at the right time.
Cash management is concerned with the
managing of:
• cash flows into and out of the firm,

• cash flows within the firm
• cash balances held by the firm at a point
of time by financing deficit or investing
surplus cash
Reasons for Maintaining Cash
• Transaction motive – This refers to the intention to meet
the minimum business operations requirement.
• Speculative motive- This leads to the use of cash balances

to take advantage of bargain purchases on materials or
unusual cash discounts.
• Precautionary motive- This results in holding cash for

unforeseen fluctuations in cash inflow and outflow.
Cash Equivalents
Cash equivalents are short-term , highly liquid investments that
are readily convertible to cash. These are investments which
are so near their maturity dates, making risks inherent to the
investment insignificant.
Based on the Philippine Accounting Standard No. 7 ,

investments with the original maturity of three months or less
is qualified as a cash equivalent.
Examples:
A 90-day treasury bill
A 190-day treasury bill purchased within 90 days before its majority
A 90-day time deposit
A 90-day commercial paper
Advantages of Holding Cash or Cash
Equivalents
• Taking advantage of the trade discounts
• Maintenance of good credit rating
• Favorable business opportunities
• Meeting emergencies
• Capacity to compete
Factors Affecting Cash Requirements
• Firms policy on cash management – This refers to
the amount of cash a firm needs to cover for a
certain number of days of the business operations.
• Availability of loans – A firm with good credit

standing may hold a cash balance at low levels
without putting the firm at risk.
Factors Affecting Cash Requirements
• Forecasted cash inflow and outflow – differences between
the inflows and outflows are determined by analyzing the
collections and disbursements records of the firm.
• Unpredictable events – Firms should not only account for

predictable collections and disbursements. They should also
prepare for any unpredictable event by holding marketable
securities or securing credit lines.
Controlling Cash Flows
Main objective of cash management
Tools that may be used for
controlling cash flows
• Synchronizing cash flow

• Cash floats on payments & collections.
• Extending cash payments
• Availing of cash discounts
• Optimum transaction size

Synchronizing cash flow
• This is a process in which the cash inflows coincide with the

outflow. A synchronized cash flow is highly dependent on an
accurate forecast of inflows and outflows.
• This will result to less borrowings, lower interest expense,

and maximized profits.


Float Disbursements
These are differences between the company’s book balance
and bank balance in any period of time.
Floats exist when the firm issues its own check and sends
it to payee company.
A float can be classified into three categories:
Mail float – It is from the time the check is issued up to the

time the check is received by the payee.
Processing float – It is from the time the check is received

by the payee until the time it is deposited in the payee’s bank
account.
Clearing float- It is from the date the check is deposited up

to the date the check is cleared and made available for use.
Accelerating Collection of Funds by
Reducing Collection Float
1.Collecting center or agent – Float can be reduced by

strategically locating a collection center near the
customer. The collection center can be a firm providing a
collection service, or a bank where payment are made
directly to the firm’s account.
Accelerating Collection of Funds by
Reducing Collection Float
2.Lockbox system – It is a system where the company has

a “P.O box number” address. Lockboxes are normally
managed by banks.
The variables in the analysis are : cost of the service, number of days in which the
float is reduced, the amount of check to be converted immediately into cash, and
expected rate of return on the cash freed.
Example:
• Oki Corporation has average cash receipts of P200,000 per day.
Normally, it takes 7 days from the time the check is received for it to
be made available as cash. How much cash is tied up?
Average cash receipts per day P200,000

Number of days tied up x 7
Amount of cash tied-up P1,400,000
Concentration Banking
This is another way of accelerating the collection of funds.
Concentration banking has many forms.

• Direct sends where checks are sent directly to the drawee
bank
• Direct deposit to the company’s bank account , provided that
the bank is already on line
• Auto-debit arrangement wherein the payee’s account is
credited while that of the payor is debited.
Concentration Banking
A firms’ monthly average cash balances are computed as follows:
Monthly Average Cash Balance

1 25,000
2 30,000
3 40,000
4 60,000
Total 155,000
The monthly average cash balance is:

155,000/4 = 38,750
If the annual interest rate is at 15%, the monthly return earned on the average cash balance is:
38,750 x 0.15 x 30/360 = 484.38


Extending cash disbursements
Cash inflow – the acceleration of funds to support company operations

and to gain additional income on the cash freed-up.
Cash outflow- is concerned with how cash disbursements can be

extended from the time the billing statement is received.
Stretching Payables is an obvious way of extending cash disbursements.

Ways to Conduct Cash Disbursements
• Playing the float
• Payment by draft
• Auto-debit transfer
• Debit transfer
• Stretching Payables
• Centralization of disbursements
• Use of statistics to predict the amount of checks issued

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Working Capital

It is a business strategy designed to ensure that a company

• Aggressive Policy- promises the highest return but carries

• Matching Policy- it falls between the two extremes. It is

Financial Ratios plays a crucial role in managing working capital.

ratios Having a very high investment in cash is risky because of its

Internal control has an important part in securing the working

Policies serve as a guideline in executing the transactions

Changing and activities of the company. However, if the existing

• cash flows into and out of the firm,

• Speculative motive- This leads to the use of cash balances

• Precautionary motive- This results in holding cash for

Based on the Philippine Accounting Standard No. 7 ,

• Availability of loans – A firm with good credit

• Unpredictable events – Firms should not only account for

• Synchronizing cash flow

• Synchronizing cash flow

• This is a process in which the cash inflows coincide with the

• This will result to less borrowings, lower interest expense,

• Synchronizing cash flow

• Synchronizing cash flow

Mail float – It is from the time the check is issued up to the

Processing float – It is from the time the check is received

Clearing float- It is from the date the check is deposited up

1.Collecting center or agent – Float can be reduced by

2.Lockbox system – It is a system where the company has

Average cash receipts per day P200,000

Concentration banking has many forms.

Monthly Average Cash Balance

The monthly average cash balance is:

• Synchronizing cash flow

• Synchronizing cash flow

Cash inflow – the acceleration of funds to support company operations

Cash outflow- is concerned with how cash disbursements can be

Stretching Payables is an obvious way of extending cash disbursements.

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