MODULE NO.

: 7 Teacher: Faith
Subject: G10 Business Studies DATE: 25-28 March, 2024
Parent’s Signature: _________ Marks: _____ /

UNIT 5: Financial Information and Decisions

Topic: Cash-flow forecasting and working capital

OBJECTIVES:
By the end of this unit, students will be able to:

• differentiate between cash inflow and cash outflow;

• identify and explain two ways of overcoming cash problems;
• calculate the net cash flow of a business.

REFERENCES:
H_IGCSE and O Level Business Studies, 5th edition
Cambridge IGCSE Business Studies, 4th edition

LESSON 1: Why is cash important?

-If a firm doesn’t have any cash to pay its workers, suppliers, landlord and government, the business could go
into liquidation– selling everything it owns to pay its debts.
-The business needs to have an adequate amount of cash to be able to pay for all its short-term payments.

Cash Flow
-The cash flow of a businesses is its cash inflows and cash outflows over a period of time.
A. Cash inflows are the sums of money received by the business over a period of time. For example.:
• sales revenue from sale of products
• payment from debtors– debtors are customers who have already purchased goods from the business but
didn’t pay for them at that time
• money borrowed from external sources, like loans
• the money from the sale of business assets
• investors putting more money into the business

B. Cash outflows are the sums of money paid out by the business over a period of time. For example:
• purchasing goods and materials for cash
• paying wages, salaries and other expenses in cash
• purchasing fixed assets
• repaying loans (cash is going out of the business)
• by paying creditors of the business- creditors are suppliers who supplied items to the business but were not
paid at the time of supply.
Activity

The cash flow cycle:

 Take Note : Cash flow is not the same as profit! Profit is the surplus amount after total costs have been
deducted from sales. It includes all income and payments incurred in the year, whether already received or
paid or to not yet received or paid respectfully. In a cash flow, only those elements paid by cash are
considered.

Cash Flow Forecasts

-A cash flow forecast is an estimate of future cash inflows and outflows of a business, usually on a month-by-
month basis. This then shows the expected cash balance at the end of each month. It can help tell the
manager:

• how much cash is available for paying bills, purchasing fixed assets or repaying loans
• how much cash the bank will need to lend to the business to avoid insolvency (running out of liquid cash)
• whether the business has too much cash that can be put to a profitable use in the business

Example of a cash flow forecast for the four months:

-The cash inflows are listed first and then the cash outflows. The total inflows and outflows have to be
calculated after each section.

-The opening cash/bank balance is the amount of cash held by the business at the start of the month
Net Cash Flow = Total Cash Inflow – Total Cash Outflow
 - The net cash flow is added to opening cash balance to find the closing cash/bank balance– the amount of
cash held by the business at the end of the month. Remember, the closing cash/bank balance for one month is
the opening cash/bank balance for the next month!
-The figures in bracket denote a negative balance, i.e., a net cash outflow (outflows > inflows)

Lesson 2 : Uses of cash flow forecasts:

• Starting a business -when setting up the business the manager needs to know how much cash is
required to set up the business. The cash flow forecast helps calculate the cash outflows such as rent,
purchase of assets, advertising .
• Running an existing business - A statement of cash flow forecast is required by bank managers when the
business applies for a loan. The Keeping the bank manager informed - bank manager will need to know how
much to lend to the business for its operations, when the loan is needed, for how long it is needed and when it
can be repaid.
• Managing cash flow– if the cash flow forecast gives a negative cash flow for a month(s), then the business will
need to plan ahead and apply for an overdraft so that the negative balance is avoided (as cash come in and the
inflow exceeds the outflow). If there is too much cash, the business may decide to repay loans (so that interest
payment in the future will be low) or pay off creditors/suppliers (to maintain healthy relationship with
suppliers).
How can cash flow problems be overcome?

-When a negative cash flow is forecast (lack of cash) the following methods can be used to correct it:
• Increase bank loans: bank loans will inject more cash into the business, but the firm will have to pay regular
interest payments on the loans and it will eventually have to be repaid, causing future cash outflows
• Delay payment to suppliers: asking for more time to pay suppliers will help decrease cash outflows in the
short-run. However, suppliers could refuse to supply on credit and may reduce discounts for late payment
• Ask debtors to pay more quickly: if debtors are asked to pay all the debts they have to the firm quicker, the
firm’s cash inflows would increase in the short-run. These debtors will include credit customers, who can be
asked to make cash sales as opposed to credit sales for purchases (cash will have to be paid on the spot, credit
will mean they can pay in the future, thus becoming debtors). However, customers may move to other
businesses that still offers them time to pay
• Delay or cancel purchases of capital equipment: this will greatly help reduce cash outflows in the short-run,
but at the cost of the efficiency the firm loses out on not buying new technology and still using old equipment.
In the long-term, to improve cash flow, the business will need to attract more investors, cut costs by
increasing efficiency, develop more products to attract customers and increase inflows.

Working Capital
-Working capital is the capital required by the business to pay its short-term day-to-day expenses. Working
capital is all of the liquid assets of the business– the assets that can be quickly converted to cash to pay off
the business’ debts.
Working capital = Current assets – Current liabilities
 -Working capital is the life-blood of a business. Having enough working capital assists in raising the credit
reputation of a business. No business can run effectively without a sufficient quantity of working capital. It is
crucial to retain the right level of working capital.
-A business enterprise with ample working capital is always in a position to take advantage of any favourable
opportunity, either to buy raw materials being offered at a discount or to implement a customer’s special
order.
-Working capital can be in the form of:
• cash needed to pay expenses
• cash due from debtors – debtors/credit customers can be asked to quickly pay off what they owe to the
business in order for the business to raise cash
• cash in the form of inventory – Inventory of finished goods can be quickly sold off to build cash inflows. Too
much inventory results in high costs, too low inventory may cause production to stop.

Exercise
Bruno manages a hotel. Most of the hotel bedrooms are occupied during the main tourist season, which lasts
for seven months. The hotel’s main cash outflows are the same each month but food costs and some
employee costs increase when there are more tourists. Bruno plans to have the hotel redecorated but he does
not know whether the cost of this will mean the hotel exceeds its overdraft limit. The hotel’s bank account is
overdrawn for several months of each year.

A Define ‘cash ouVlows’.[2]

b . IdenZfy two likely cash ouVlows for Bruno’s hotel.[2]
c . Outline two effects on Bruno’s hotel if he offers hotel guests credit of one month following a stay in the
hotel.[4]
d . Explain two likely benefits to Bruno of producing a cash flow forecast.[6]
e . Explain the advantages and disadvantages of any two ways in which Bruno could improve the cash flow
posiZon of the hotel. Which way would you advise him to use? JusZfy your answer. [6]