Management of cash flow within companies

¶ … Cash Flow (Sprague, 2008). A synopsis of the content is given followed by a specification of the thesis's main point. Three supporting opinions/reasons for this thesis are outlined, as well as three opposing opinions/reasons. Finally, a summary and opinion of the thesis is presented.

Noting the importance of cash flow in the ability to not only pay for goods and services, but also the necessity of cash flow for organizations to take advantage of emerging opportunities, Sprague (2008) explores the topic of cash flow management within organizations. This exploration begins with a history of business cash flow reporting. Organizations were originally required to file a funds statement, or a statement of the changes they realized in their financial position. In 1961, it was recommended that this funds statement be included in an organization's annual report to shareholders, alongside the income statement and balance sheet. Although not mandatory, many organizations saw its value and began to use the funds statement. In 1987, however, FASB No. 95 required the funds statement to be used instead of a general funds statement. This new requirement also standardized the format, which highlighted cash flow from operations, investing and financing.

FASB No. 95 requires several cash flow measurements. These include: cash flow statements, cash flow from operations, cash flow from investments, and cash flow from financing. There are two methods for reporting cash flow from operations -- the direct and the indirect method. The direct method reports inflows of cash and outflows from payment of expenses. "The indirect method which begins with the net income number, a mixture of cash (e.g. Cash proceeds from sales) and non-cash components (e.g. Depreciation) and removes non-cash or accrual items, then adjust for the cash effects of transactions not yet reflected in the income statement (e.g. cash payments for inventory not yet sold)" (Sprague, 2008, p. 2).

There are a variety of challenges that organizations may face with cash flow management. Running short on cash often means the utilization of credit, according to Sprague (2008). There may be a lag between when expenses need to be paid and revenues are received, therefore setting realistic revenue receipt expectations is important. Cash flow projections are only what is estimated to be received and when. For this reason, strategies must be put into place to maximize the efficiency and efficacy of cash flow management.

Specification of Thesis's Main Point:

Defining cash flow as the currency in which organizations pay their employees and vendors, as well as use to invest in new opportunities and projects, Sprague (2008) surmises that without proper cash flow management, "businesses cannot repay loans, provide goods and services to customers or invest in future growth opportunities" (p. 1).

Three Supporting Opinions/Reasons:

Sprague (2008) supports their thesis by illustrating the benefits of accurate cash flow forecasting, one of the tools of cash flow management. First, with accurate forecasting, organizations can guarantee payments to suppliers will occur on a specific date. This guarantee often results in better credit terms. Secondly, working capital with proper cash flow management is optimized with precise forecasting. With proper cash flow management, the amount of working capital cash needed on hand is minimized and this then allows cash not needed right away to be placed in areas of higher return. Lastly, proper cash flow management can help improve or maintain an organization's financial reputation.

Three Opposing Opinions/Reasons:

Three opposing opinions/reasons that Sprague (2008) presents center on the challenges that organizations currently have in managing cash flow. One of the challenges an organization may incur happens when they poor manage their cash flow and run short on cash on hand. The result is most organizations turn to using credit cards or lines of credits to not only fund their operations, but pay their bills as well. When cash is not on hand, an organization's relationship with their vendors and banks may suffer. They also may not be able to take advantage of emerging opportunities, and it may negatively affect the organization's reputation as a whole. A second challenge organizations face with cash flow management is being realistic with the amount of time it will take for them to receive revenues. This negatively affects cash flow projections that Sprague illustrates as being very important to a company's success. Companies are become slower and slower to pay their vendors, with 45 to 60 days becoming more the norm than the traditional 30 days, according to Feldman, as cited by Spargue. The third and final challenge to cash flow management is the lag in time between when payment to suppliers and employees comes due and the time in which revenues are received from customers.

Summary:

Sprague (2008) gives a fairly comprehensive overview of cash flow, with this article. The author begins with the history of cash flow reporting and the cash flow statement. Sprague describes how cash flow reporting has transformed from being an option that had begun to catch on as effective in the 1960s to today's now mandatory requirement, as issued in FASB No. 95, stating that cash flow statements must be included with the income statement and balance sheet, in an organization's annual report to shareholders. FASB No. 95 is covered briefly, with a discussion of the required cash flow measurements. The two types of reporting -- direct and indirect -- are discussed; however there are questions that the author raises in their statement of facts, yet doesn't address.

Sprague (2008) comments that an overwhelming majority utilize the indirect method of reporting cash flow. Yet, this method, according to Sprague, "provides the least useful information for investment decisions" (p. 3). The author fails to describe specifically why the indirect method yields such useless information. Nor does she give a reason why so many organizations choose this method of reporting or why, if it doesn't effectively provide information, is it an option at all. An explanation of why the indirect method is preferable in some instances, despite the drawbacks, would have added another dimension to this section. Despite this interesting historical background, the remainder of the article brought the author's point home, regarding the importance of proper cash flow management.