Cash is crucial to a company’s survival. It’s a key indicator of corporate health as whilst a company can survive short-term without sales or profit, it will fail without cash to finance the day-to-day running of the business.
The amounts and timing of money coming in and going out of the business must be carefully monitored and controlled to ensure that there is always enough money available to pay bills on time. Ideally there would be more money coming in than going out, although there will often be a delay between the time money is invested and when a cash return is seen on that investment.
The most effective way of managing this flow of income and expenditure is with budgeting.
A budget is a statement of the revenue and expenses that a company expects to experience over a particular period of time. It’s a plan to control expenses and ensure that there is enough money available to finance current commitments and future projects.
There are four types of budget:
Budgeting is usually done on an annual basis as part of the business planning process. However there should be some degree of flexibility which allows unplanned expenditure to enable the company to take advantage of new opportunities which may arise. However this leads onto the fact that budgets not only need to be created, they also need to be monitored and managed.
Careful tracking of cash flow is important to highlight any variations against the original plan. Once problems are identified action can be taken to resolve them. In addition if a company knows exactly where its cash-flow stands then it knows how much money it has available at any given time and can confidently refine its business plan to invest in new activities if the opportunity arises.
Without a budget a company would be working blind with no knowledge of whether they can afford to pay tomorrow’s invoices or could be taking on new commitments without knowing whether it can really afford to pay for them.
The benefits of budgets are far reaching. They allow money to be managed effectively which in turn improves decision-making, resources can be allocated appropriately to the projects with the highest priority, and performance can be monitored to identify and respond to problems before they occur.
Cash flow can be improved if necessary, perhaps by asking customers to pay more quickly, chasing debts to ensure invoices are paid on time, seeking extended credit from suppliers or leasing rather than buying new equipment.
Source: ChinaStones - http://china-stones.info/free-essays/accounting/cash-flow-management.php