Managing Cash Flow

278 Planning Cash Flow
The fourth and final piece of the cash balance requirement puzzle is a very
subjective one—that of how much of a “cushion” to maintain. We all have different
attitudes toward risk. Some of us like to play right up at the edge of the cliff,
while others of us prefer to stay back from the brink. The greater the degree of risk
of running out of cash the company is willing to take, the less cushion it needs to
keep in its bank balances. The more conservative the company is, the greater the
cushion needs to be. Some company executives prefer to maintain fairly large cash
reserves in order to provide enough “sleep insurance” to be comfortable. Others
prefer the riskier approach of lower reserves in exchange for the greater earnings
potential. This is not a judgmental observation about whether high or low risk is
better, but merely a statement that the security of low risk may result in lower
earnings, while the higher earnings potential of a higher risk approach will entail
a downside hazard of running out of cash. The choice is the company’s to make,
and will depend on its culture as well as the needs of its particular business.
WILLINGNESS TO ASSUME MORE RISK
CAN REDUCE THE AMOUNT OF OPERATING
CASH BALANCES REQUIRED.
If the company does not have access to short-term cash advances or borrowings
from an external financing source on short notice, it must consider larger
minimum cash reserves. The overarching objective is to ensure, within reason,
that sufficient cash balances are always available to take care of upcoming requirements
on an as-needed basis.
Using Excess Cash
In the happy event of a projected cash excess, the company has several options
available to it. Broadly, these fall into the categories of expansion, investment, purchases,
growth, and the like. These are alternatives which most of us like to be able
to evaluate since they are opportunistic, expansionary, and progressive in nature.
However, as pleasant as they may be, they cannot be done effectively without
careful planning and foresight. Any kind of expansionary activity has a risk element
attached. Even something as simple as a temporary investment of shortterm
excess cash carries with it the risk of tying up cash otherwise available for
different needs. The risk expands substantially as the length and dollar value of
the commitment increases. This means the risk should not be taken without reasonable
assurance that it makes economic sense for the organization. Economic
sense includes the idea of having enough funds to be able to carry on other routine
business operations as well as the cash needs of the new activities. The cash
forecasting activity thus becomes vital as part of the process of providing assurance
that the project, however, big or small, is doable.