Introduction to financial management

Introduction to Financial Management

(1) Cash and Equivalents

This most liquid form of current assets, cash and cash equivalents (usually marketable securities or short-term certificate of deposit) requires constant supervision. A well planned and maintained cash budgeting system is essential to answer key questions such as: Is the cash level adequate to meet current expenses as they come due? What are the timing relationships between cash inflows and outflows? When will peak cash needs occur? What will be the magnitude of bank borrowing required to meet any cash shortfalls? When will this borrowing be necessary and when may repayment be expected?

(2) Accounts Receivable

Almost all businesses are required to extend credit to their customers. Key issues in this area include: Is the amount of accounts receivable reasonable in relation to sales? On the average, how rapidly are accounts receivable being collected? Which customers are "slow payers?" What action should be taken to speed collections where needed?

(3) Inventories

Inventories often make up 50 percent or more of a firm's current assets and therefore, are deserving of close scrutiny. Key questions which must be considered in this area include: Is the level of inventory reasonable in relation to sales and the operating characteristics of the business? How rapidly is inventory turned over in relation to other companies in the same industry? Is any capital invested in dead or slow moving stock? Are sales being lost due to inadequate inventory levels? If appropriate, what action should be taken to increase or decrease inventory?

(4) Accounts Payable and Trade Notes Payable

In a business, trade credit often provides a major source of financing for the firm. Key issues to investigate in this category include: Is the amount of money owed to suppliers reasonable in relation to purchases? Is the firm's payment policy such that it will enhance or detract from the firm's credit rating? If available, are discounts being taken? What are the timing relationships between payments on accounts payable and collection on accounts receivable?

(5) Notes Payable

Notes payable to banks or other lenders are a second major source of financing for the business. Important questions in this class include: What is the amount of bank borrowing employed? Is this debt amount reasonable in relation to the equity financing of the firm? When will principal and interest payments fall due? Will funds be available to meet these payments on time?

(6) Accrued Expenses and Taxes Payable

Accrued expenses and taxes payable represent obligations of the firm as of the date of balance sheet preparation. Accrued expenses represent such items as salaries payable, interest payable on bank notes, insurance premiums payable, and similar items. Of primary concern in this area, particularly with regard to taxes payable, is the magnitude, timing, and availability of funds for payment. Careful planning is required to insure that these obligations are met on time.

As a final note, it is important to recognize that although the working capital accounts above are listed separately, they must also be viewed in total and from the point of view of their relationship to one another: What is the overall trend in net working capital? Is this a healthy trend? Which individual accounts are responsible for the trend? How does the firm's working capital position relate to similar sized firms in the industry? What can be done to correct the trend, if necessary?

Of course, the questions posed are much easier to ask than to answer and there are few "general" answers to the issues raised. The guides which follow provide suggestions, techniques, and guidelines for successful management which, when tempered with the experience of the individual owner-manager and the unique requirements of the particular industry, may be expected to enhance one's ability to manage effectively the financial resources of a business enterprise.