3.7

• Cash


  Often described as the lifeblood of a business because every organisation needs cash to keep going
• Cash


  • Needed to pay for daily costs, such as wages and electricity
  • Failure to pay suppliers and trade creditors may eventually result in a business being declared bankrupt
  • Cash is a current asset
  • It is the money that a business actually receives from the sales of goods and services
  • It can be in hand or at bank
• Profit


  The positive difference between a firm's total sales revenue and its total costs of production for a given time period
• When a sale is made, this contributes towards paying the firm's costs
• Break-even point


  When enough is sold to pay for all costs
• Sales beyond a firm's break-even point


  Generates profit for a business
• Profit = total revenue - total cost
• Credit


  Means that customers can buy now but pay later
• Credit


  • Advantages: may attract more customers
  • Disadvantages: may cause cash flow problems
• Profit is made before the cash is received, i.e. profit is not the same as cash
• A firm can be profitable but lack cash
• Reasons for cash flow issues

  • Poor credit control
  • Rapid expansion
  • Seasonal demand fluctuations
• Poor credit control


  Affects cash flow
• Rapid expansion


  Profitable business expanding too quickly, consuming available cash, leading to deficiency
• Seasonal demand variations


  Certain times of year experience liquidity problems
• Liquidity


  Businesses ability to convert assets to cash swiftly without loss in value
• Cash is essential for paying suppliers, employees and financiers
• Cash shortage ultimately leads to bankruptcy
• Cash flow forecast


  A financial tool used to show the expected movement of cash into and out of a business, for a given period of time
• Key elements of cash flow forecast

  • Cash inflow
  • Cash outflow
  • Net cash flow
• Cash inflow


  Cash that comes into a business during a given time period
• Cash outflow


  Cash that leaves a business during a given time period
• Net cash flow


  The difference between cash inflow and cash outflow for a given time period
• Ideally net cash flow should be positive
• It is possible for a firm to suffer from a negative net cash flow to survive temporarily
• Banks and other lenders require a cash flow forecast to help them assess the financial health of the business seeking external sources of finance
• Cash flow forecasts can help managers to anticipate and identify periods of potential liquidity problems
• Good financial control can help a business to better achieve its organizational objectives
• Opening balance


  The amount of cash at the beginning of a trading period
• Closing balance


  The amount of cash at the end of the trading period
• Closing balance = opening balance + net cash flow
• Cash inflow or outflow items

  • Sale revenue (Inflow)
  • Rental income (Inflow)
  • Dividends to shareholders (Outflow)
  • Payment to creditors (Outflow)
  • Wages (Outflow)
  • Debtors (Inflow)
  • Rent paid (Outflow)
  • Purchase of stocks (Outflow)
  • Interest received (Inflow)
  • Bank loans (Inflow)
  • Interest payments (Outflow)
  • Sales of assets (Inflow)
• Cash flow forecast features

  Opening balance<|>Cash flow<|>Cash outflow<|>Net cash flow<|>Closing balance
• Net cash flow = Cash inflows - Cash outflows
• Consistent positive net cash flow leads to healthy liquidity
• Healthy liquidity allows for investment into fixed assets to maintain/increase output
• Consistent or better levels of output generate consistent profits
• Consistent profits eventually lead to consistent positive net cash flows
• Consistent negative net cash flows lead to a poor cash balance
• A poor cash balance prevents a firm from making ongoing investments into fixed assets