MANAGEMENT OF

WORKING CAPITAL
ACCOUNTS
CASH
- the most liquid asset of a company but
it is also the asset most vulnerable to theft.

• Because of this, there must be proper

internal controls over cash that need to be
observed to safeguard the asset
 THE FOLLOWING INTERNAL CONTROLS ARE
SUGGESTED
1. Separating cashiering function from the recording or
accounting function.
- a basic internal control system should not allow
the assignment of custodial function and recording
function to one person, unless you are the owner.
2. Issuing official receipts for collections and
summarizing collections in a daily collection report.
- it is important to know the collections from
business every day as these collections reflect the health
of the company. The daily collection report is going to be
useful for the next control measure for cash – depositing
collections
3. Depositing collections.
- a good internal control over cash is by depositing all
collections intact. The daily collection reports are now
compared with the deposit slips to find out if all
collections are indeed deposited
4. Adopting the check voucher system.
- if all collections need to be deposited, then
payments must be made through a check voucher
system.
There must be two signatories in the check to provide
check and balance. If the business is small, then the
entrepreneur’s signature may suffice. However, for big
operations, there can be a set of check signatories
authorized to sign depending on the amount of payments
Having two check signatories minimizes the
probability of issuing a flawed check, either to the
wrong payee or incorrect amount.

The check must also be cross-checked by drawing

two lines on the payee section of the check. This
cross-checking requires depositing of a check. It
cannot be encashed. This makes it more difficult
for somebody who stole a check to get the money.
CASH BUDGET
- shows the expected cash receipts and
disbursements for an accounting period.

To find out if the company will be in need of cash

in the coming accounting period and to have an
estimate of how much is needed and at what
particular period that need will arise, a cash
budget must be prepared for an accounting
period. It can be prepared on a monthly or a
quarterly basis for a year.
Parts of a cash budget:
1. Cash receipts
- this includes collections from
receivables, proceeds from loans or issuance
of new shares of stocks and advances from
stockholders.
2. Cash disbursements
- this section includes payments to
suppliers and other service providers,
payments for loans, and cash dividends.
3. Net cash flow for the period
- this is computed by deducting cash
disbursements from the collections for the period. This
provides information regarding the amount of excess
cash or cash deficit for the period.
4. Target cash balance
- no business can operate without cash. This target
cash balance is the amount that management wants to
maintain at all times given its present level of
operations, stability of cash flows, and the
macroeconomic and political conditions. There are
primary and secondary reasons for holding cash which
will be discussed in the next lesson.
5. Cumulative excess cash or funding requirements
- this is the most important part of the cash
budget where the possible funding requirements are
shown on a cumulative basis.
- very important in planning because if the
management can estimate the amount of cash they
will need in the future and when it will possibly
arise, this early, management can identify the
possible source of cash
- planning the possible sources of cash in
advance will save the company financing costs and
the unnecessary stress for managers
A good problem to deal with is cumulative excess
cash. If the company has excess cash, then
management can decide where to invest the
excess funds to generate more investment
income for the company.

To prepare a cash budget, assumptions have to

be made. These assumptions must be based on
the historical performance of the company and
plans of the management.
Primary and Secondary Reasons for Holding cash
• The amount of cash to be maintained by the
company is affected by primary and secondary
reasons.
Primary reasons for holding cash – for
transactions and compensating balance
purposes
A company needs cash to pay for the following
transactions: purchase of inventories, salaries,
utility services, loans, dividends, and other
transactions that affect the business.
Primary and Secondary Reasons for Holding cash
• Compensating balances have something to do
with having deposit accounts and loans with
banks.
• The minimum balance that a bank requires to
keep the deposit account with them is an
example of compensating balance.

If a company inquires a loan, the bank will also

require a minimum amount of deposit that a
bank requires has to be maintained with that
bank. This is another example of compensating
balance.
Primary and Secondary Reasons for Holding cash
 Secondary reasons for holding cash – for
precautionary and speculative purposes.
If there is an economic crisis, management
may want to maintain a higher level of cash for
emergencies and to serve as buffer for any
possible slowdown in business activities.
A company can also maintain cash for
speculative purposes. When there are economic
and political crises, a lot of things can be put
on sale.
Primary and Secondary Reasons for Holding cash
• Valuation of real estate properties and stocks
traded in the stock exchanges can go down to
unreasonable levels because owners just want
to get rid of them.

For people with cash, these periods are

perfect opportunities to buy and invest
ACCOUNTS RECEIVABLE
Providing credit terms to customers is
one way of generating sales.

To prove this point, consider a real estate

company which sells condominium units at
₱5 million per units. How many units can the
property developer sell if he sells the unit only
on cash basis? Do you think he can sell a lot?
Probably not as many as compared to
providing instalment payments
Management of accounts receivable is
important. Imagine a situation where your
company cannot collect its accounts
receivable. If this situation always happens,
start looking for another job. If your company
cannot collect its accounts receivable,
eventually it will have to shut down its
operations.
How can management minimize the potential loss from uncollected
accounts receivable?
Minimizing loss from exposure to accounts
receivable starts with its origination. This means
the customer who is given credit term must be
credit worthy. In large companies, there is a credit
committee composed of representatives from sales
and marketing and financing departments who
decide which customers should be given credit
terms. This does not mean that if a company is
small, customers will no longer be screened. The
same principles of credit evaluation applies to big
and small companies. The approach may probably
just vary as it is more formalized in big companies.
5 Cs of credit used in credit evaluation:
1. Character
- refers to the integrity and reputation of the
customer. The educational background and
experience in the business are also considered
2. Capacity
- refers to the capacity to pay. The operations
of the business especially the operating cash flows
are given emphasis in this criterion
3. Capital
- refers to the amount of capital invested by
the owner or in this case, the customer, into his
company
4. Collateral
- can be guarantees or collateral provided by
the customer to support his exposure with the
company

5. Condition
- describes the environment where the
company operates which may affect the ability of a
customer to pay. It includes economic and political
conditions, the state of competition in the industry
where the company operates and the prospects of
its industry
Management of accounts receivable should
also include having a good billing and
collection system.

A good system should lead to the sending

of statements of accounts to customers on
time. Follow-ups through phone calls or
any form of any gentle reminders should be
made if customers fail to pay on time.
These follow-ups can also serve as the
managements way of validating if the
phone numbers given by the customers are
still working and if the customers still
occupy the same office
INVENTORIES
Managing inventories is very important for
merchandising companies and manufacturing
companies. Not managing inventories properly
can lead to substantial amount of impairment
losses.
Internal controls by management to safeguard
inventories:
1. Separating custodial functions from the
recording functions
- just like cash, this internal control measure is
also true for inventories and for other types of assets

2. Aging of inventories
- allows management to identify the fast-
moving items and the slow-moving items

3. ABC Analysis
- this approach classifies inventories into
three categories: A, B, and C.
Inventories which are considered most important
are classified as A; those at the middle are
classified as B; and the least important is
classified as C.

The main reason for identifying them is to provide

the kind of security due to each category of
inventories. This is not to say that category C
inventories are not important but that the
company has limited resources. Therefore, the
more valuable items have to be given better
security
TRADE ACCOUNTS PAYABLE
Dealing properly with suppliers is a good success
variable in doing business. While it is true that
increasing days’ payable will lead to a lower cash
conversion cycle and more operating cash flows for
the company, as a customer, it is not proper to
simply delay payments. Try to follow the credit terms
and if the management wants to have longer payment
terms, this has to be discussed and agreed upon
between two parties. If the supplier is happy with a
customer, chances are, requests of this nature can be
accommodated.