Introduction to Corporate Finance

16: Financial Planning

ending cash balance exceeds the desired minimum cash balance, then the company has an excess cash

balance that it can invest in short-term marketable securities.

TABLE 16.5 CASH BUDGET FOR FAREWELL TRADERS ($ THOUSANDS)

October November December

Total cash receiptsa $570 $ 990 $1,050

Less: Total cash disbursementsb 692 $1,244 905

Net cash flow –$122 –$ 254 $ 145

Add: Beginning cash 200 78 –176

Ending balance cash $ 78 –$ 176 –$ 31

Less: Minimum cash balance 50 50 50

Required total financing (notes payable)c $ 226 $ 81

Excess cash balance (marketable securities)d $ 28

a From Table 16.3.

b From Table 16.4.

c Values are placed on this line when the ending cash balance is less than the desired minimum cash balance. These amounts are typically financed by

short-term arrangements, so are represented by notes payable.

d Values are placed on this line when the ending cash balance is greater than the desired minimum cash balance. These amounts are typically invested

in short-term vehicles and so are represented by marketable securities.

example

Table 16.5 presents the cash budget for Farewell
Traders based on the cash receipt and disbursement
schedules developed in earlier Examples, together
with the following additional information: (1) Farewell

Traders’ cash balance at the end of September

is $200,000; (2) notes payable and marketable

securities are $0 at the end of September; and (3) the

desired minimum cash balance is $50,000.

The cash budget provides the company with figures indicating whether a cash shortage (financing

need) or a cash surplus (short-term investment opportunity) is expected in each of the months covered by

the forecast. In our example, Farewell Traders can expect a cash surplus of $28,000 in October, followed

by cash shortages of $226,000 in November and $81,000 in December. Each of these values is based on

the internal constraint of a minimum cash balance of $50,000.

Because the company expects to borrow as much as $226,000 during the three-month period, the

financial manager should establish a line of credit to ensure the availability of the necessary funds. The

maximum amount of borrowing available on the line of credit should actually exceed the $226,000, in

order to allow for possible forecast errors.

For Farewell Traders to maintain its desired
minimum ending cash balance of $50,000, it will have
notes payable (short-term borrowing) balances of
$226,000 in November and $81,000 in December.
In October, the company will have excess cash of
$28,000, which it can invest in marketable securities.
The required total financing figures in the cash budget
refer to how much the company will owe at the end
of each month, but the figures do not represent the
monthly change in borrowing. For Farewell Traders,
the monthly financial activities are as follows:

• October: Farewell Traders invests $28,000 of
  excess cash.
  
  
  • November: The company liquidates $28,000 of
    excess cash and borrows $226,000. Net cash flow
    of –$254,000 uses all the available cash reserves
    ($50,000 minimum cash balance from October
    plus $28,000 excess cash), leaving an ending cash
    balance of –$176,000. To cover that negative
    balance and maintain the desired minimum cash
    balance, Farewell Traders must borrow $226,000
    ($176,000 + $50,000).
  
  
  • December: Net cash flows of $145,000 reduce
    Farewell Traders’ end-of-month borrowing needs to
    $81,000 (versus November’s $226,000). Thus, Farewell
    Traders repays $145,000 of the amount borrowed.