Cash Management

Cash Management and Forecasting
Outline:
Cash Management Process Considerations
Liquidity Management
Cash Concentration and Pooling Systems
Cash Forecasting
Projected Closing Cash Position
Cash Management Risks and Controls
v3.0 2011 Association for Financial
Professionals. All rights reserved.
Session 5: Module 4, Chapter 8 - 1
Cash Management Framework

Collection , Disbursement & Concentration ( Speed up
Inflows, control outflows and minimize costs)
Determinants :
Organisations industry,
legal and regulatory environment,
payments system and
available payment instruments
Collections
Collection system which minimizes cost of collection
and collection float while maintaining desired level and
quality of information regarding customer remittances
and other sources
Costs include:
Float costs
Expenditures associated with managing the collections system
(banking fees, 3rd party collection etc)
Opportunity costs until funds are available for use
Collections
Collection Float : time interval or delay between when a
payment is initiated and when a company receives good
funds (primarily to paper based instruments)
Mail Float (delay b/w when cheque is mailed and day it is
received)
Processing Float ( delay b/w when payee receieves the check
and the day check is deposited into payees account)
Availability Float ( delay b/w the day a check is deposited and
the day a companys account is credited with collected funds)
Collection Float Components

Sending Party
Disbursement Float
Processing Float
Mail Float
Check is
drawn and
mailed out
Lockbox
receives
check
Field office
receives
check
Check encoded
and processed
through clearing
system
Clearing Float
Depositor
receives
collected
funds
Check
processed
and deposited
Receiving Party
Mail Float
2008 Association for Financial
Review 2 - 5
Collection Float
Processing Float
Availability Float
Check clears
back to
drawee bank
account
Float Calculation
Measured in dollar-days; e.g., annual sales of
$50,000,000 (5% in cash), 4 days avg. float,
8% opportunity cost
Average Daily Float = Average Daily Receivables Collected
Average Days of Float
$50,000,000 0.95
=
4 days
365
= $520,548 Dollar - days

Annual Cost of Float = Average Daily Float Opportunity
Cost of Funds
= $520,548 0.08 = $41,644
Review 2 - 6
Collection points
Company Processing Centre
Check processing and Deposit preparation are performed inhouse
Using Banking Channels / concentration
Collections : Company Processing

Center
Advantages
Control
Disadvantages
investment and
ongoing expenses
Flexibility
Increased mail float
Facilitation of updating
Increased processing
Customization
float
Customer service quality
Increased availability
Access information
float
Update A/R
Harder to establish
With volume comes
contingency and disaster
lower cost
recovery plans
Review 2 - 8
Capital
Collections Banking Channels

Setting collection banks - based on geographical location of
customers
Paper based cheque deposits in local branches
Float issue
Same Day
Electronic methods of payments

Predictability of settlement timing and availability of funds
Flexibility of directing payments to any account of FI without manual
intervention
Ease of transmitting customer remittance information to facilitate A/R
processing
Eliminates float costs
Collections Banking Channels

Electronic methods of payments Examples
- Customer payments via online transfers using IBFT

- Payment via RTGS
- Direct Debits (Standing instructions)
- Mobile payments
Major payment mechanisms in

Pakistan
Real Time Gross Settlement (RTGS) (2009)
Initially banks were using PRISM (RTGS) to transfer and settle
inter-bank transactions. This has enabled banks to transfer interbank transactions into beneficiaries accounts on the same day.
Inter Bank Fund Transfer (IBFT) (2012)
Apart from RTGS, through ATM Switch, instant A/C credit facility is
also available for beneficiaries through Inter Bank Fund Transfer
(IBFT). Now the turnaround time for account credit has
considerably reduced to maximum 30 minutes provided correct
beneficiary account number (IBAN) is mentioned in the payment
instructions.
Cheques

Pakistan-RTGS
PRISM systems operated by State Bank of Pakistan
offers a powerful mechanism for limiting settlement and
systemic risks in the interbank settlement process by
providing settlement on Gross Basis and in Real Time.
Real Time Gross Settlement Systems (RTGS) are
mechanisms that enable banks to make large-value
payments to one another in real-time using online
telecommunication facilities as well as state-of-the-art
computer systems. The payments are settled on gross
basis in real time thus minimizing the systemic risks
that are inherent in large-value net settlement systems.

Pakistan-RTGS
SBP took the decision to implement the RTGS primarily with
assistance from the World Bank.
Using this system, the banks holding accounts at SBP are
able to operate their accounts in real time from their own
premises via computerized network between SBP and the
participating Banks.
The 3rd Party transfer through PRISM/RTGS fall into one of
two categories
a)Big Value 3rd Party Transfers (Rs 1.000M and above)
b)Small Value 3rd Party Transfers (Rs 0.100M to Rs
0.999M)

Pakistan-IBFT
Inter Bank Funds Transfer enables customers to transfer the funds in or
out of their account instantly between banks without the hassle of
making pay orders, writing cheques etc.
The service allows customers of 1LINK member banks to transfer funds
from their account to any of the millions of accounts of other
participating member banks on 1LINK network across the country.
The IBFT service is real-time and instantaneous which can be performed
from any Alternate Delivery Channels (Such as ATM, IVR, Call Center,
Internet, Mobile, etc) of 1LINK Member Banks.
Real-time and instantaneous funds transfer
Send up to Rs. 250,000 per day
IBFT enabled on all delivery channels (ATM, Internet, Call Center, Mobile)

Pakistan- - Cheques
Clearing Services Offered by NIFT
Overnight clearing Including Return Cheque Processing
(24 hour Clearing Cycle)
Same Day/High Value Clearing including return cheque
Processing (3 hour Clearing Cycle)
Inter City clearing including Return Cheque Processing
(48 hour Clearing Cycle)
Countrywide Local US Dollar Clearing (5 day Clearing
Cycle)
Cash Concentration
Transfer funds from outlying depository locations to a
central bank account Concentration Account
OBJECTIVES
Minimize bank balances

Pool funds
Facilitate daily liquidity management
Invest more funds to increase income
Pay debt faster and reduce interest expense
Take advantage of vendor discount terms
Cash Concentration System Configuration

Considerations:
Size and geographic
distribution
Transfer alternatives
Branch footprint of
banks
Most large retail

chains transmit
information from
POS terminals to
EDTs and wire transfers
headquarters.
are most frequent.
Usually head quarters

initiate transfers
v3.0 2011 Association for Financial Professionals. All rights reserved.
Multiple branches of
single bank
Bank Services that Facilitate Deposit or

Automatic Concentration
Both
require
using
multiple
branches
of single
bank.

Session 5: Module 4, Chapter 8 -
Zero balance
account
(ZBA)
Separate units deposit in distinct

depository accounts
Balances transferred automatically at
end of day to master concentration
account (balance is zero)
Deposit
reconciliation
Deposits from many locations credited

to one corporate bank account
Auxiliary on-us field carries unique
identifier for each company location for
location-specific deposit reports
Concentration costs : a)Excess

Balances
Average collected balance is greater than bank
compensation needs or chosen target.
Causes
Deposit reporting delays by field units
Clearing delays of one day when using ACH for cash
concentration
Transfer initiation delays if concentration entries are
submitted to the originating bank late or contain
reporting errors
Receipts posted or received subsequent to investment
cutoff times
Concentration costs : b)Bank Charges
Deposit and concentration banks may assess fees

for each deposit, deposited items, inbound and
outbound wires, ACH
clearings, deposit reports, overdrafts, negative
collected balances, and account maintenance.
Concentration costs : C)Admin Costs
Answer:
Managing deposit reportingreceiving and monitoring
daily reports from local managers and concentration banks
Scheduling cash transfersdeciding when
and what amounts to transfer
Preparing debit files
Reconciling deposit reports
Monitoring transfers to prevent internal
fraud
Reducing Concentration System

Costs
Enhance concentration system efficiency.
Improve transfer schedule timing.
Reduce excess balances.
Anticipate availability.
Anticipate deposits.
Use faster transfer mechanism.
Reduce transfer costs.

Use less expensive transfer mechanisms.
Transfer funds less frequently.
Threshold and target concentration.
Disbursements
Main goal of managing an Accounts Payable (A/P) and
disbursement system is to disburse funds in a timely,
accurate and cost effective manner
A/P and Payroll responsible for initiating vendor and
employee payments
Treasury directly responsible for debt and dividend
payments in addition to the funding of disbursement
accounts
Disbursements
Opportunity Costs
Excess borrowing or lost investment income
Paying bills late such as lost discounts or late fees
Paying bills early such as short-term investment interest income lost
or extra short term borrowing interest incurred
Administrative Cost
Overhead Costs of A/P dept
Fixed costs of disbursement system Account maintenance and balance reporting
Variable costs costs of issuing cheques, account reconciliation, stop payments &
fraud prevention
Overdraft costs
Disbursement Products
Paper Based Cheques etc
Direct Deposits
Electronic Transfers
Prepaid Cards
Corporate Credit Cards
Integrated or Comprehensive A/P
Outsource all or part of A/P or disbursement
Co. sends data file to provider containing list of all payments
to be made (to whom, instuctions on payment method etc)
Review 2 - 25
Controlled Disbursement
A bank service
providing notification of
the dollar amount of
checks that will clear
against a controlled
disbursement account
that day
Daily clearings usually
available by early or
mid-morning
2008 Association for Financial Professionals. All rights reserved.
Adequate funds must

then be provided to the
account to cover the
value of the checks
presented
Review 2 - 26
Positive Pay
Used to combat check fraud
Company transmits file of check information to the
disbursement bank
Bank matches numbers and amounts and only pays
matches

Review 2 - 27
Cost/Benefit of Funds Acceleration

Example:
Assume the following based on the fact that
a wire transfer accelerates funds one day
faster than an EDT.
EDT costs
$1.10
Total wire transfer costs$17.50

Total transfer amount
$110,000
Opportunity cost of funds 5%

Review 2 - 28
Cost/Benefit of Funds Acceleration

Formula and calculation
Funds Value
Opportunity
= Available Funds Days Accelerated Daily

Cost
Funds Value
= $110,000 1 (0.05/365)
= $110,000 1 0.0001369
= $110,000 0.0001369
= $15.06
Because the funds value ($15.06) is less than the incremental

costs of a wire transfer ($17.50 $1.10 = $16.40), it is more
advantageous
for the company to use an EDT rather than a
2008 Association
for Financial
Professionals. All
rightstransfer.
reserved.
wire
Review 2 - 29
Minimum Wire Transfer Amount

Example:
Assume the following based on the fact that a wire transfer
accelerates funds one day faster than an EDT.
EDT costs $1.25
Total wire transfer costs $14.00
Opportunity cost of funds
4.5%
What is the minimum amount that would justify using a wire

transfer vs. an EDT?
Review 2 - 30
Minimum Wire Transfer Amount

Formula and
calculation
Minimum Transfer
Wire Cost EDT Cost

Days Accelerated
Opportunity
365Cost
Days
$14.00 $1.25
1 Day
$12.75
0.0001232
Review 2 - 31
0.045
365
Days
=
$103,490.25
Cash Forecasting
Minimum
liquidity
Estimate
future cash
inflows and
outflows.

Generate a
pro forma
cash position.
Identify how
to cover cash
deficits/
surpluses.
Target
balances
Objectives of Cash Forecasting

Liquidity management
Schedule investment decisions.
Anticipate borrowing requirements.
Financial control
Meeting strategic objectives
Capital budgeting
Managing costs
Managing currency exposure
Forecasting Horizons
Short-term
Daily, weekly
or monthly
basis
Predict cash receipts and

disbursements and the
resulting balances.
Mediumterm
One to 12
months
Project the inflows

(collections from sales and
other sources of funds) and
outflows (expenses and
other uses of funds) on a
monthly basis.
Long-term
Any period
beyond one
year
Consider projections of longterm sales, expenditures,

and market factors; of
strategic importance.

Discussion Question
Identify the following forecasting horizons.
Answers:
Shortterm
1. Used to establish and manage target

balances for bank compensation purposes
Mediumterm
2. Used to determine the companys need for

short-term credit or availability of funds
for short-term investing
Mediumterm
3. Used as a performance
benchmark to compare actual
cash flows to projected cash
flows based on the cash budget
Long-term
4. Used by financial institutions and

rating agencies for credit analysis

Degrees of Certainty
Certain
Known in advance (e.g., interest, debt

principal repayments, dividends,
royalties, tax payments)
Predictable
Can be predicted with reasonable

accuracy; prediction of future cash
flows can be made based on past
observations (e.g., cash collections
from credit sales, payroll, clearing of
vendor checks)
Less
predictable
Difficult to forecast; involves experience

and judgment (e.g., new product sales,
unexpected repairs, claims, strike
settlements)

Forecasting Methods
A/R balance pattern
Receipts and
disbursements
forecast
Receipts schedule
Disbursements
schedule
Completed forecast
Distribution forecast
Simple average
Regression analysis
Pro forma financial statements
Statistical forecasting
Forecasting Methods: Receipts and

Disbursements Forecast

Forecasting Methods: Forecasting

Using the Distribution Method
Company used
regression
analysis to
estimate
proportion of
dollars that will
clear on a given
business day. It
has determined
the proportion
depends on the
number of days
since distribution.

Discussion Question
What are the three steps in percentage-of-sales
pro forma statement forecasting?
Answer:
Forecast income statement and balance sheet.
Calculate projected ending cash balance by determining
how forecasted income statement and balance sheet
values impact cash.
Compare projected ending cash
balance with target cash balance and
adjust pro forma statement to show
funding source for cash shortfall or
investment of cash surplus.
Current Income Statement and Balance

Sheet (Percentage-of-Sales)

To generate percentage-of-sales
forecast, following assumptions are
made (numbers in thousands):
Sales will increase by 10% to
$2,200 in 2011.
COGS, selling and administrative
expenses, current assets (cash,
receivables, inventory), and
payables are constant percentage
of sales.
Cash balance is derived from cash
flow statement.
Additional fixed assets of $100 will
be purchased.
Depreciation will be $50.
Notes will be reduced to $100 at
beginning of year.
Dividends will be $24.
Pro-Forma Income Statement and

Balance Sheet (Percentage-of-Sales)
All projected account
balances except cash are
calculated based upon
given assumptions.
Ending cash balance is
determined by evaluating
impact on cash of income
statement activity and
balance sheet changes
and adjusting beginning
cash balance accordingly.
Discussion Question
Given the following two pro forma statements, what
is the projected ending cash balance?
Answer:
Statistical Forecasting
Extrapolation
Identifies past trends to predict pattern of

future cash flows.
Time series
Identifies repetitive patterns in a historical

series to predict future values of the series.
Simple moving average bases a forecast on a
rolling average of past values.
Exponential smoothing produces a forecasted
value based on the most recent actual value,
the most recent forecasted value, and a
number between zero and one that is used to
weight these two values.
Correlation
Statistically identifies degree of association

between a cash flow and another variable.

Simple Moving Average

Forecast

Exponential Smoothing
Forecast
Ft+1 = X t + 1 Ft
Where:
t = Time period subscript (t = current period, t+1 = next period, etc.)
Ft+1 = Cash flow forecast for the next period (t+1)
Ft = Cash flow forecast for the current period (t)
= Smoothing constant (0 < < 1)
Xt = Actual
cash flow for the current period (t)
v3.0 2011 Association
for Financial
Discussion Question
How does a cash manager arrive at the projected
closing cash position?
Answer:
A cash manager adjusts opening bank
available balance by:
Adding the expected settlements in
collection and concentration accounts
Deducting the projected disbursement
totals
Cash Management Risks and

Controls: Internal Control Issues
System of checks and balances
Monitoring of transactions, cash flows and
information
Controls
Matching for errors, invoices, deposit amounts
Verification against bank reports
Segregation of duties at each step of a
transaction or outsourcing for smaller
companies

External Fraud
Disbursement
fraud
ACH fraud
Wire fraud
Technology:
color copiers,
printers,
scanners
Non-recurring
transaction
frequency
Highly
automated
system
Fraudulent
endorsements
and alterations
Payroll fraud
and ACH kiting
Target small or
medium firms
< $10,000
Positive pay
and payee
verification
Debit blocks
and filters,
controlled
disbursement


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Cash Management and Forecasting

Cash Management Framework

Collection Float Components

= $520,548 Dollar - days

Using Banking Channels / concentration

Collections : Company Processing

Collections Banking Channels

Electronic methods of payments

Collections Banking Channels

- Customer payments via online transfers using IBFT

Major payment mechanisms in

Major payment mechanisms in

Major payment mechanisms in

Major payment mechanisms in

Major payment mechanisms in

Minimize bank balances

Cash Concentration System Configuration

Most large retail

Usually head quarters

Bank Services that Facilitate Deposit or

v3.0 2011 Association for Financial

Separate units deposit in distinct

Deposits from many locations credited

Concentration costs : a)Excess

Concentration costs : b)Bank Charges

Deposit and concentration banks may assess fees

v3.0 2011 Association for Financial Professionals. All rights reserved.

Session 5: Module 4, Chapter 8 - 20

Concentration costs : C)Admin Costs

Session 5: Module 4, Chapter 8 - 21

Reducing Concentration System

Reduce transfer costs.

2008 Association for Financial Professionals. All rights reserved.

Adequate funds must

2008 Association for Financial

Cost/Benefit of Funds Acceleration

Total wire transfer costs$17.50

Opportunity cost of funds 5%

Cost/Benefit of Funds Acceleration

= Available Funds Days Accelerated Daily

Because the funds value ($15.06) is less than the incremental

Minimum Wire Transfer Amount

What is the minimum amount that would justify using a wire

Minimum Wire Transfer Amount

Wire Cost EDT Cost

v3.0 2011 Association for Financial

Objectives of Cash Forecasting

v3.0 2011 Association for Financial Professionals. All rights reserved.

Session 5: Module 4, Chapter 8 - 33

Predict cash receipts and

Project the inflows

Consider projections of longterm sales, expenditures,

v3.0 2011 Association for Financial

1. Used to establish and manage target

2. Used to determine the companys need for

4. Used by financial institutions and

v3.0 2011 Association for Financial

Known in advance (e.g., interest, debt

Can be predicted with reasonable

Difficult to forecast; involves experience

v3.0 2011 Association for Financial

Pro forma financial statements

Forecasting Methods: Receipts and

v3.0 2011 Association for Financial