9   Cash Flow Measures and Reports

Anthony Vasconcellos

Introduction

Maximizing cash flow is the ultimate goal of all businesses, because cash is the lifeblood of any enterprise. Reported increases in profit, market share, audience share, or revenues are meaningless if a business is unable to pay salaries and dividends and pay off debts with “real money.” In recent years, managers, bankers, and potential investors have placed more emphasis on cash flow as an overall measure of a company’s true value. Taken from the organizational to the personal level, think in terms of your own salary. You can work two weeks and “earn” $2,000 (accrual accounting), but it doesn’t do you any good until you actually receive the paycheck and funds can be drawn from this sum. In simple terms, if a business doesn’t have the cash in the bank to pay vendors or employees or is bouncing checks, that business has a cash flow problem.

Relevance of Cash Flow

Although a very simple concept to understand, cash flow is, in fact, difficult to manage. In the past, working capital, rather than cash flow, was the focus of attention.However, because of complexities associated with accrual accounting and the application of more sophisticated accounting principles, a more concrete, simplified cash flow method of analysis began to gain acceptance as a true measure of performance. Today, the Statement of Cash Flow is one of the most vital financial reports an organization provides to its management, lenders, and investors. This intense scrutiny of cash flow stems from one crucial fact: as cash flow increases, so does the value of the business. As evidence of the importance of cash flow, sales prices of broadcast and cable properties are typically based as a multiple of cash flow (also called operating income—this reflects earnings before interest, taxes, depreciation, and amortization). For example, investors may determine that the market value of a station for sale in a certain part of the country is 10 times cash flow (before corporate overhead costs).

What Is Cash Flow?

Cash flow is nothing more complicated than calculating the difference between the bank balance at the beginning and the end of a specified time period. The key to understanding cash flow is, of course, the thorough analysis of the components contributing to this difference.

Notwithstanding a sudden—and welcome—increase in sales, cash maximization is best achieved by attention to these elements.

For additional information about cash flow statements, see Chapter 3.

Enhancing Cash Flow

Net Income

In cash basis accounting, the net income of a company becomes its cash flow. As a result, maximizing cash is achieved by increasing revenues and minimizing expenses. In accrual accounting, sales generate the receivables, which need to be collected, and expenses generate the payables, which need to be paid. Net income then becomes the starting point when collecting cash from customers (i.e., advertisers and subscribers). In other words, even after having had an exceptional sales month, a business may be short of cash. If, for example, receivables balloon or cash goes to pay down balances with suppliers, cash balances may decrease even after a month of great sales.

For simplicity’s sake, the discussion in this section is limited to maximizing cash flow from key components of the overall analysis.

Accounts Receivable/Cash Collections

Accounts receivable, that most basic and important of assets, is not given the attention it deserves by some organizations. In addition to the obvious cost of financing receivables, the risk of late-paying customers turning into collection or legal problems adds special significance to receivables.

A quick example shows the cost of financing customer accounts. If current receivables indicate days sales outstanding (DSO) of 90 days, and monthly net revenue averages $2,000,000, a company is financing customers to the tune of $6,000,000 (90 days of revenue in receivables). If collections were improved by 20 days, the average receivable balance would decrease by approximately $1.3 million. Using an interest rate of 10 percent, the 20-day improvement would result in a savings of $130,000 annually in finance charges, which may even justify hiring an additional employee in the Collections Department.

Income Taxes

The dark side of having fewer bad debts is higher income taxes. A good tax accountant or attorney will help decrease the company’s cash flowing to the government. Not only can he or she help save cash on current taxes due, the accountant should also be consulted when the company plans future projects. The use of accelerated depreciation, deferred compensation for executives, timing of charitable contributions, capitalization policy, lease/buy decisions, and financing are all areas that a qualified tax consultant can work to positively affect cash flow. Even though most tax savings are a matter of timing and are merely postponing payment to the government (i.e., dollars saved now will be paid later), it is still better to hold the cash for a few years than to pay the government immediately. Have the tax consultant consider tax implications of all major business decisions. More detail on tax-saving ideas can be found in Chapter 15.

Managing Accounts Payable

Like taxes, accounts payable is an area in which the business will not normally save cash permanently, but will temporarily defer payment. (Some discounts are available for early payment; however, the value of this discount is a function of the company’s cost of capital.) Lengthening payment timing can cut both ways by straining vendor relations. A vendor that has been getting paid slowly may be reluctant to fill the next order for tape stock, cable, or a tape machine. Many times, market conditions dictate how long a payment can be delayed.

Of course, it is good business practice not to pay a bill before it is due, but delaying payment too long can backfire. Be careful: short-term cash flow gains can significantly impact long-term operations (bad credit referrals, cash-in-advance terms, etc.).

Fixed Asset Purchases

When considering whether to lease or buy a fixed asset, always be sure to perform a computation to determine the interest rate included in the lease payment. (Although the actual formula is a little more complicated, this is basically the percentage difference between the sum of all lease payments plus the cost to purchase the asset at the end of the lease and the cash price for the asset.) If the rate is higher than the interest rate on the company’s credit lines, then it is generally more beneficial to purchase the asset outright.

Cash Planning

Do not forget cash planning when trying to enhance cash flow. Planning cash needs in advance can help shift excess cash from low-interest or non-interest-bearing accounts to higher-return accounts. Alternatively, if an increase in excess cash is not currently needed, the company may decide to pay down debt carried at a high interest rate. Other methods of getting the most from cash are the use of a secure lockbox for collections of receivables, and zero-balance disbursing accounts. A lockbox is a bank service in which customer (advertiser, subscriber, etc.) payments are sent to a post office box managed by the bank; checks are retrieved, processed, and credited to the company’s account more quickly than those sent to the company’s office—this reduces the number of days it takes to convert a customer payment into available cash. In a zero-balance system, funds are transferred daily from a central account in an amount equal to the checks presented for payment that day. Consolidating accounts and utilizing a zero-balance system can help reduce the cash balances that would be required by maintaining many accounts.

Many banking institutions provide cash-management software that will carefully track the movement and balances of a company’s cash funds. These systems are usually inexpensive, and facilitate full productive use of all funds of a company.

In Conclusion

A few moments spent with your banker, your tax consultant, and/or cashmanagement experts will pay big dividends when it comes to maximizing your cash flow.