IGCSE Business Studies - Cash Flow Forecasting and Working Capital

Introduction

• Presenter: Zee from You Miss Easy
• Topic: Cash Flow Forecasting and Working Capital (5.2 for IGCSE Business Studies)
• Learning Goals:
  • 5.2.1 The importance of cash and of cash flow forecasting
  • 5.2.2 Working capital

5.2.1 The Importance of Cash and of Cash Flow Forecasting

Importance of Cash

• Definition: Cash is a liquid asset available for immediate spending.
• Cash Flow: Movement of money into and out of a business over a certain time period.
• Problems from Insufficient Cash:
  1. Unable to pay workers, suppliers, landlords, and governments.
  2. Production stops if workers and suppliers are not paid.
  3. Business may face liquidation (selling assets to pay debts).

Cash Inflows

• Sources of Cash Inflow:
  1. Sale of products for cash.
  2. Payments made by debtors (who purchased on credit).
  3. Borrowing money from external sources.
  4. Sale of business assets (e.g., property).
  5. Investments from shareholders.

Cash Outflows

• Common Outflows:
  1. Purchasing goods or raw materials for cash.
  2. Paying wages, salaries, and other expenses.
  3. Purchasing non-current or fixed assets.
  4. Repaying loans.
  5. Paying creditors (for items purchased on credit).

Cash Flow Cycle

• Diagram Description:
  1. Cash needed to pay for materials and costs.
  2. Time required to produce products.
  3. Products sold to customers.
  4. Customers who receive credit pay later.
  5. Cash used to buy more materials, continuing the cycle.
• Importance of Planning: Ensures business can pay for materials, avoid liquidity crises, and manage customer credit.

Cash Flow vs. Profit

• Difference: Profit is surplus after deducting total costs from revenue; cash flow involves actual cash transactions.
• Example Question: Why can profitable businesses run out of cash?
• Reasons for Insolvency:

1. Allowing extended credit periods.
2. Purchasing too many fixed assets at once.
3. Expanding too quickly, leading to high inventory levels (overtrading).

Cash Flow Forecasts

• Definition: Estimate of future cash inflows and outflows, usually monthly.
• Uses:
  1. Manage cash for paying bills and loans.
  2. Plan for bank borrowing to avoid insolvency.
  3. Determine if too much cash is being held.

Use Cases of Cash Flow Forecasts

1. Starting a Business: Determine cash needed for initial operations.
2. Running an Existing Business: Managing ongoing cash needs.
3. Communicating with Bank Manager: Essential for loan applications.
4. Managing Cash Flow: Avoid idle cash and optimize capital use.

Example Cash Flow Forecast

• Components: Inflows, outflows, opening balance, net cash flow, closing balance.
• Net Cash Flow: Calculated as inflows minus outflows.
• Impact: Positive net cash flow increases bank balance, negative decreases it.

5.2.2 Working Capital

Concept and Importance

• Definition: Capital readily available for a business; difference between current assets and current liabilities.
• Role: Essential for day-to-day operations and seizing opportunities.
• **Forms of Working Capital: **
  1. Cash: Needed for daily costs and buying inventories.
  2. Debtors: Credit sales value affecting cash flow.
  3. Inventories: Stock levels impacting production and opportunity costs.

Definitions

1. Cash Flow: Cash inflows and outflows over a period.
2. Cash Inflows: Money received by the business.
3. Cash Outflows: Money paid by the business.
4. Cash Flow Cycle: Stages between paying for resources and receiving cash from sales.
5. Profit: Surplus after subtracting total costs from revenue.
6. Cash Flow Forecast: Estimate of future cash transactions.
7. Net Cash Flow: Difference between inflows and outflows.
8. Closing Cash/Bank Balance: Cash at the end of each month.
9. Opening Cash/Bank Balance: Cash at the start of each month.
10. Working Capital: Readily available capital for expenses.

Conclusion

• Summary: Importance of cash flow forecasting and working capital in business operations.
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Study Tip: Review the cash flow forecast examples and try creating your own to better understand the concepts discussed.