John Tennent - The Economist Guide to Cash Management: How to Avoid a Business Credit Crunch

GUIDE TO CASH MANAGEMENT

Guide to Analysing Companies

Guide to Business Modelling

Guide to Business Planning

Guide to Economic Indicators

Guide to the European Union

Guide to Financial Management

Guide to Financial Markets

Guide to Hedge Funds

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Organisation Culture

Successful Strategy Execution

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Directors: an AZ Guide

Economics: an AZ Guide

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Negotiation: an AZ Guide

Pocket World in Figures

How to avoid a business credit crunch

John Tennent

THE ECONOMIST IN ASSOCIATION WITH
PROFILE BOOKS LTD AND PUBLICAFFAIRS

Copyright The Economist Newspaper Ltd, 2012

Text copyright John Tennent, 2012

First published in 2012 by Profile Books Ltd. in Great Britain.
Published in 2014 in the United States by PublicAffairs,
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THE GLOBAL BANKING CRISIS and subsequent tightening of credit highlighted the importance of cash and cash flow to sustaining a business. Those that had ignored the warning signs and were subjected to stricter credit criteria soon found themselves in trouble.

This guide to cash management is designed to take you through the principles used to manage cash and cash flow and illustrate their practical application. It starts with some financial fundamentals and then covers forecasting, funding, working capital management, investment criteria and the utilisation of surpluses. Each chapter is written from an operational rather than a banking perspective. At the end is a glossary of the financial terms used in the book.

Most books are not just the work of the author but also incorporate contributions from many others. I am grateful to clients and colleagues at Corporate Edge who provided the opportunity to explore aspects of business, complete research and develop my thinking. In particular, I would like to thank Jonathan Crofts and Patrick Schmidt for reviewing the drafts and Profile Books for the help they gave me, particularly Stephen Brough, Penny Williams and Jonathan Harley.

Special thanks to my wife, Angela, and my two sons, William and George, who have supported my enthusiasm for writing, even on holidays. Also to my parents, particularly my father, a chartered accountant, who always encouraged my career, and was the author of a cash management book in 1976. While the fundamentals may not have changed, the technology with which to apply them is very different, as is the political and economic climate.

I would welcome feedback and can be contacted at this e-mail address: John-Tennent@CorporateEdge.co.uk

John Tennent
March 2012

To run a successful business requires effective management of a variety of resources that include all or some of the following: people, equipment, property, cash, a brand, products, services and inventory. Of all these resources cash is probably the most important. With sufficient cash a business has the ability to buy almost any of the other resources in which it may be deficient. Whether the purchase of that resource is worthwhile at the price required is another matter, but the purchase can still be made. All the resources other than cash have a value to a business that is dependent on their availability, utilisation, market demand and the prevailing economic climate. It is cash and only cash that maintains a constant value and can easily be turned into other assets or resources. This book explores the effective management of this most precious resource.

At a personal level we learn by experience the fundamentals of managing cash. We have a bank account and a monthly statement that tells us our cash balance and itemises all the receipts and payments. Intuitively we know that we must have more cash coming in than going out if we are to avoid debt. A cash crisis occurs when we have to make payments from a depleted bank account and find our borrowing limits have already been reached. In a business, few people have access to the type of cash information that we have at home. Therefore cash flow may appear to be an activity that can be forecast, analysed, monitored and managed by someone in finance. However, there is both a legal and an operational responsibility for managing cash that extends across the whole of a businesss management.

In some countries there is a legal responsibility based in insolvency law. For example in the UK it is an offence for directors to continue to trade if their company cannot pay its debts when they fall due. Directors have a duty to their staff and to their creditors to acknowledge when a business is in financial difficulty. Failure to act when evidence is available can lead to directors becoming personally liable for certain debts.

The operational responsibility requires everyone in a business to understand how their individual actions affect cash and to take responsibility for making changes that can improve its flow. However, many managers have a poor understanding of cash flow and any performance incentives often direct their energy to other aspects of the business such as sales volume or new business generation. Consequently, many businesses can become inefficient in their use of cash by tying up huge amounts in working capital and poorly utilised assets. The challenge is to raise awareness, responsibility and reward for improvements.