There are four phases of Cash Management. They are:
1. Cash planning and preparation of cash budget
2. Managing the cash flows
3. Optimum cash level
4. Investing surplus cash
1. Cash Planning and Preparation of Cash Budget
Cash planning is a technique to plan and control the use of cash. It protects the financial condition of the firm by developing a projected cash statement from a forecast of expected cash inflows and outflows for a given period.
Cash Forecasting and Budgeting
Cash budget is the most significant to plan for and to control cash receipts and payments. A cash budget is a summary statement of the firms expected cash inflows and outflows over a projected time period. It gives information on the timing and magnitude of expected cash flows and cash balances over the projected period. Cash forecasting may be done on short or long term basis. Generally forecast covering period of one year or less are considered short terms. Those extending beyond one year are considered long term.
2. Managing the Cash Flows
Once the cash budgets have been prepared and appropriate net cash flow established, the financial manager should ensure that there does not exist a significant deviation between projected cash flows and actual cash flows. To achieve this cash management efficiency will have to be improved through a proper control of cash collection and disbursement. The twin objectives of managing the cash flows should be to accelerate cash collections as much as possible and to decelerate or delay cash disbursements as such as possible.
3. Optimum Cash Level
A prudent finance manger desires to maintain only that much amount of cash balance as is just only that much amount of cash balance as is just sufficient to satisfy transaction requirements as well as to meet precautionary and speculative motives. This task is so important that carrying of excess cash balance entails loss of interest earnings to the firm and thus causes low profitability and maintaining a small, cash balance renders the firm’s liquidity position weak, although a higher profitability us ensured. Thus, determination of suitable level of cash holding involves risk-return trade-off.
Determination of appropriate level of cash balance is not only necessary to optimize cash utilisation but also to decide the level of investment in marketable securities. It is worth stressing that the optimal level cash should be larger of
(i) the transaction balances required when cash management is efficient and
(ii)the compensatory-balance requirements of commercial banks with ‘which the firm has deposit accounts.
A number of cash management models have been developed to decide the optimal level of cash balance. We shall examine here two of the more widely used models. These models are based on such terest rate on marketable securities and cash.
4. Investing Surplus Cash
There is a close relationship between cash and money market searching or other short-term investment alternative. Excess cash should normally been invested in those alternative which can be conveniently and promptly converted in to cash.
A firm can invest its excess cash in many types of marketable securities. The primary criterion in selecting a security or investment opportunity will be it quickest convertability in to cash when the need for cash arises.
In choosing among alternative investment a firm should examine for basic features of security that are:
• Safety
• Marketability
• Maturity
• Taxability
Short Term Investment Opportunities
• Treasury Bills
• Commercial Papers
• Certificate of Deposits
• Inter Corporate Deposits
• Money Market Mutual Fund