Corporate Finance

Cash Management 
 311

The choice of a new lock box location depends on:

• Cost of lock box service,


• Number and frequency of daily mail pickups, and


• The bank’s expertise in operating the box and the presence or absence of allied services.

CASH FORECASTING

Since cash management is a forward-looking activity, sound predictions of demands and trends are a necessity

to cope with seasonality in demand. Forecasting can be qualitative or quantitative. Qualitative forecasting

involves eliciting expert opinion on the future states of the world and their influence on the item under

consideration. Qualitative forecasting is usually restricted to identifying basic long-term trends rather than

short-term and intermediate forecasts. Moving averages, exponential smoothing and regression analysis are

some of the quantitative techniques used in forecasting. Forecasting techniques vary in their costs, as well as

in scope and accuracy. The cash manager must decide what accuracy is required or what inaccuracy is

tolerable. This allows trade-off between cost and value of accuracy. Increased accuracy may lead to lower

cash levels and hence carrying costs. One should weigh the savings against the cost of more sophisticated

and expensive techniques.

The following guidelines might prove useful while selecting a forecasting technique:

• The forecasting technique should be relevant for decision-making.


• It should not rely too much on the past.


• It should make best use of available data with reasonable degree of accuracy.


• It should not be too expensive vis-à-vis the benefit arising out of the analysis.


• It should not require maintenance of a large amount of data.


• It should incorporate all relevant cause and effect relationships.


• Finally, it should work.

Often, cash forecasting is mistaken for planning and budgeting. A forecast is just an estimate. A budget

emerges when suitable actions are suggested and planned to achieve specific objectives. The given illustration

describes simple cash forecast.

An Illustration

The actual sales and credit purchases for the first quarter are as shown:

Month Sales Credit purchases
January 2 crore 65 lac
February 2.2 crore 52 lac
March 2.5 crore 30 lac

The firm sells goods on credit. Historically, 20 percent of the credit sales are realized in the month of sales,

60 percent in the subsequent month and 18 percent in the third month. Bad debt losses are 2 percent of the

sales. The goods purchased in January have been purchased on 2 months’ credit; the goods purchased in