534 Accounting: Business Reporting for Decision Making
such speedy accommodations normally cost more than planned increases in liquidity. On the other hand,
a manager might hold excess cash, ‘just in case’. What is the cost of this? The cost is the return forgone
by holding cash and not investing in the short-term money market. The return on cash-in-hand is zero;
the return on money market funds may be 4–5 per cent per annum.
The timing of cash flows
Cash flows come into the entity from a number of sources, including:
- cash sales
- credit sales, when the accounts receivable eventually pay their accounts
- sales of used or unwanted assets
- capital injections
- short-term loans
- long-term loan funding.
Cash flows out of the entity to service needs include:
- purchase of inventories
- purchase of labour, materials and other services
- purchase of assets (fixed or intangible)
- payment of taxes.
The timing of most of these flows is normally variable, the only exceptions probably being the pay-
ment by the entity of wages and taxes. Entities can plan the timing of the purchase and sale of assets, and
the requirements for capital injections, to suit their needs. Similarly, in contracting for loans or placing
funds in the short-term money market, an entity can negotiate timing that best suits its own needs.
How does the entity know what timing is most appropriate? The major tool is the cash budget dis-
cussed in chapter 9. The cash budget is a detailed plan of expected cash receipts and cash payments that
may be drawn up on a daily, weekly, monthly or annual basis. The cash budget highlights any probable
cash surpluses or deficits, and allows the manager to plan for investing surpluses or providing for deficits
in plenty of time, so that the most advantageous arrangements may be made.
The cost of cash
The cost of holding cash may be thought of in terms of:
- the opportunity cost of holding currency or cash deposits, rather than short-term securities
- the cost of ensuring physical security of currency.
Where a manager keeps additional funds in currency on hand or as cash-at-bank in a demand (cheque)
account, the return will be zero or close to it. The cost of keeping funds in those forms is the return
forgone from not investing in the short-term market. Similarly, funds kept in seven-day deposits or
one-month securities normally would involve a sacrifice of returns possible from a longer period. More-
over, there is normally a high cost to keeping currency physically secure.
Electronic alternatives to settling transactions in currency or by writing cheques, such as EFTPOS,
direct entry and the use of debit and credit cards, have reduced the amounts of currency handled by enti-
ties. This has reduced some costs, but has increased costs elsewhere, for example, bank interchange and
merchant fees.
The cost of not having enough cash
The cost of not having enough cash at the required time may be the loss of the business. For example,
Amcor Ltd suspended its development phase because it needed a new injection of cash. A deficit in cash
has the potential to become a permanent condition — insolvency. The penalty for insolvency is normally
the winding up of the entity. This was evident in 2011 with the liquidation of Borders Group, Inc.,
which operated 511 stores around the world (see reality check ‘Borders Group’). In the decade prior