CHAPTER SEVEN*

INTRODUCTIONFinancial manager must carefully allocate resources among the current assets of the firm, such as cash, marketable securities, accounts receivable and inventory.In managing cash and marketable securities, the primary concern should be for safety and liquidity.While for accounts receivable and inventory, attention should pay on maximization profitability.*

CASH MANAGEMENTMinimizing cash balances as well as having accurate knowledge of when cash moves into and out of the company can improve overall corporate profitability.There are several reasons for holding cash:Transaction balances involves the use of cash to pay for planned corporate expenses such as supplies, payrolls and taxes.Compensate bank for services provided.Precautionary needs it assume management wants cash for emergency purposes when cash inflows are less than projected. *

CASH MANAGEMENT:CASH FLOW CYCLEThe primary consideration in managing cash flow cycle is to ensure that inflows and outflows of cash are properly matched for transaction purposes.A simple cash flow cycle where the sale of finished goods or services produces either a cash sale or account receivable for future collection.The accounts receivable will eventually collected and become cash which is used to buy and produce inventory that is then sold.Therefore, the cash-generating process is continuous even though the cash flow may be unpredictable and uneven.*

CASH MANAGEMENT:CASH FLOW CYCLEOther activities in the firm also can affect cash inflows and outflows.The expanded cash flow cycle in Figure 7.2 (pg.177):Cash inflows are mainly from sales.But is influenced by the type of customers, geographical location, the product sold and the industry.*

CASH MANAGEMENT:CASH FLOW CYCLEThe expanded cash flow cycle in Figure 7.2 (cont):When an account receivable is collected cash balances increase and the firm uses cash to pay:Interest to lendersDividends to stockholdersTaxes to the governmentAccounts payable to suppliersWages to workers Replace inventory*

CASH MANAGEMENT:CASH FLOW CYCLEThe expanded cash flow cycle in Figure 7.2 (cont):When the firm have excess cash, it will invest in marketable securities.When it need cash for current assets, it will either sell marketable securities or borrow fund from short-term lenders.*

COLLECTIONS & DISBURSEMENTS:FLOATManaging the cash inflows and payments is a function of many variables.There are actually two cash balances of importance:The firms recorded amount The amount credited to the firm by the bank.The difference between the two is called float.Float arises as a result of time delays in mailing, processing and clearing checks through the banking system.*

COLLECTIONS & DISBURSEMENTS:FLOATWhen checks is received in the mail and a deposit is made, the deposited funds are not available for use until the check has cleared the banking system and been credited to the firm bank account.This would happened to those checks payment to suppliers and checks received from customers.*

COLLECTIONS & DISBURSEMENTS:FLOATExample: A firm has deposited $1,000,000 checks received from customers during the week, and has issued $900,000 checks to suppliers. Assume that $800,000 of checks from customer have cleared and debited while only $400,000 of firms checks being claimed. The initial cash balance is $100,000.What will the firm and bank records show? *

COLLECTIONS & DISBURSEMENTS:FLOATWith the example given, we compute the float:

The above shows that float provide us with $300,000 extra in available short-term funds.*

Firm booksBank books (amount cleared)Initial amount100,000100,000Deposits (+)1,000,000800,000Checks issue (-) (900,000)(400,000)Balance 200,000500,000

COLLECTIONS & DISBURSEMENTS:IMPROVING COLLECTIONSCollection and check-clearing process through a number of strategies.First, is to utilize variety of collection centers through out the marketing area.E.g. an insurance company with headquarters in Chicago may have 75 collection offices disbursed throughout the country with each performing a billing and collection-deposit function.The company can use a local bank as the collection offices thus clearing the checks in shorter time.*

COLLECTIONS & DISBURSEMENTS:IMPROVING COLLECTIONSFirst, is to utilize variety of collection centers through out the marketing area.The company also can adopt lockbox system to replace the collection offices. Under the lockbox system, customers are requested to forward their checks to a post office box and a local bank picks up the checks.The bank can then process the local checks through the local clearing house for rapid collection.

*

COLLECTIONS & DISBURSEMENTS:EXTENDING DISBURSEMENTA slowdown pattern more appropriately to describe the payment procedures.For instance, a multimillion-dollar corporation with its headquarters located in the most exclusive office space in Manhattan, but with its primary payment center in North Dakota.Their objective is to extended disbursement float so that they hold their cash balances as long as possible.*

COLLECTIONS & DISBURSEMENTS:COST-BENEFIT ANALYSISAn efficiently maintained cash management program can be expensive operation.The use of remote collection and disbursement center discussed earlier involves additional costs and bank might require the firm maintain adequate deposit balances or pay sufficient fees for the services.Therefore, these expenses must be compared to the benefits that may accrue through the use of cost-benefit analysis.*

COLLECTIONS & DISBURSEMENTS:COST-BENEFIT ANALYSISExample, if a firm has an average daily payment of $2 million, through stretching the disbursement schedule by one day, the $2 million will become available for alternate uses. *

COLLECTIONS & DISBURSEMENTS:ELECTRONIC FUNDS TRANSFER

This is a system in which funds are moved between the computer terminals without the use of a check.E.g. through the use of terminal communication between the supermarket and the bank, your payment is automatically charged against your account before you leave the supermarket.*

COLLECTIONS & DISBURSEMENTS:ELECTRONIC FUNDS TRANSFER

Automated clearinghouses (ACH) are an important element in electronic funds transfers.An ACH transfers information between one financial institution and another and from account to account via computer tape.Refer to Figure 7-4 for the ACH network, it shows the flow of funds.*

COLLECTIONS & DISBURSEMENTS:ELECTRONIC FUNDS TRANSFER

Figure 7-4:The originator (individual or corporation) forwards the credit or debit transaction data to an Originating Depository Financial Institution (ODFI).ODFI then sort and transmits the file to an automated clearinghouse operator.The ACH then distributes the file to the receiving depository financial institution (RDFI) which then makes the funds available receivers account (individual or corporation).*

THANK YOU*

TUTORIAL QUESTIONSIn the management of cash and marketable securities, why should the primary concern be for safely and liquidity rather than maximization of profit?Briefly explain how a corporation may use float to its advantage.Why does float exist and what effect do electronic funds transfer systems have on float?*

TUTORIAL QUESTIONSExplain the similarities and differences of lockbox systems and regional collection offices.Why would a financial manager wan to slow down disbursement?*

*