Finanace for Cash management

Question: Discuss about the Finanace for Cash management. Answer The cash budget for the period January to March 2011 is presented below: Jan 11 Feb 11 Mar 11 Opening balance -$10,800 -$34,200 -$12,600 Income Cash sales $20,000 $30,000 $30,000 Credit sales $7,500 $10,000 $15,000 Credit sales $5,000 $7,500 $10,000 Legacy $40,000 Total income $32,500 $87,500 $55,000 Expenses Cash purchases $6,000 $9,000 $10,000 credit purchases $10,000 $12,000 $18,000 credit purchases $8,000 $10,000 $12,000 Cash Wages $15,000 $10,000 $10,000 Credit wages $10,000 $15,000 $10,000 Variable overheads $5,000 $8,000 $6,000 Fixed overheads $1,900 $1,900 $1,900 Fixed assets $30,000 Total expenses $55,900 $65,900 $97,900 Net Cash flow -$23,400 $21,600 -$42,900 Closing Balance -$34,200 -$12,600 -$55,500 (Calculations given in annexure) Cash budget is related to forecasting the various cash inflows and outflows of a business for a future time period in order to plan and control the use of cash (Jain and Khan, 2008) Cash budget helps in identifying any excessive or shortage of cash in the future so that decisions that can be taken to put them to better use or to raise the required funds respectively. Also a safe level of cash can be maintained which ensures smooth running of business activities. Like in the above case, the company has negative cash balance at the end of each month; hence it can take loan to ensure smooth functioning. Also cash budget helps in deciding the credit to be extended to debtors in order to ensure no liquidity problems and having a control over the business (Gatewaycfo, 2011) The various ratios for X BHD and Y BHD are given below: Ratio X BHD Y BHD Gross profit 17.20% 26.88% Net profit 6.64% 10.63% Expenses ratio 10.56% 16.25% Stock turnover 9.4 7.3 Return on capital employed 45.11% 76.23% Current ratio 2.11 5.24 Acid test ratio 0.95 1.03 Debtor/sales ratio 24.04 55.17 Creditor/purchase ratio 11.11 7.58 (Calculations in annexure) The performance of a company can be measured through ratio analysis in which the ratios can be categorized into profitability ratio, liquidity ratio, efficiency ratio and capital structure ratio Profitability From the above ratios we see that Y has a better profitability as compared to X. It has a higher gross profit and net profit ratio. However, Y also has a higher expense to sales ratio. We have taken the administrative expenses in this ratio. Since Y has higher administrative expense as a percentage of sales, the ratio is higher. Also Y has a higher return on capital employed. This means Y is utilizing its capital more effectively in generating revenues and making profits. This ratio is particularly important for investors. Liquidity The liquidity is measured by the current ratio and quick ratio. Company Y has a very high current ratio as compared to X indicating enough current assets to meet its current obligations. However, the acid test ratio of both the companies is almost same. This means Y has most of its current assets in the form of inventory. This makes the immediate liquidity of the company low. A lot of funds are tied in stock which the company cannot liquidate immediately, hence resulting in low liquidity. Company X has ideal liquidity ratios in both current and quick ratio. Efficiency Company X has a higher stock turnover ratio as compared to X. This means X is able to convert its stock into sales faster as compared to Y. Also X has a higher accounts payable ratio. This means the company pays off its suppliers more quickly than Y and is more regular in paying the bills. However, company Y has a higher debtors turnover ratio indicating the company recovers cash from its debtors more quickly. This results in more free funds for the company which it can use in its business. Even company X has an impressive debtors turnover but Y is better. Overall company X is more efficient in managing its working capital as compared to Y (Petty, Titman, Keown, Martin, Burrow, 2011) Company Y is better in terms of profitability whereas company X is better in terms of liquidity and efficiency. Reference Khan, M.Y., Jain, P.K., (2008), Cost Accounting and Financial Management, 3rd Edition, CA Examination Series Gateway CFO, (2011), Why a Cash Budget is Important What It Should Look Like, accessed online on 25th January, 2017, available at https://gatewaycfo.com/2011/10/why-a-cash-budget-is-important-what-it-should-look-like/ Petty J.W., Titman, S., Keown, A.J. ,Martin P., Burrow, M., (2011), Financial Management : Principles and Applications, 6th Edition, Pearson Australia