Cash is Still the CFO’s Best Friend

As CFOs commit more resources to top line growth, digital transformation, analytics, talent development, cyber security and ESG reporting there is still one partner that all CFOs must lean on...??

...Cash.??

It is the indispensable ally of all Chief Financial Officers (CFOs).?? The adage "cash is royalty" encapsulates the essence of its pivotal role in every financial decision, strategy, and forecast undertaken by CFOs and their teams.

This issue of the Future of Finance Leadership is dedicated to making cash an even more effective partner in your business. ??First we will review the topic from the views of an expert cash flow optimizer, second through the strategic analysis of the Cash Conversion Cycle and third from the pragmatic use of weekly cash flow forecasts.?? These perspectives help explain the multifaceted dimensions that make cash an unwavering strategic asset for CFOs, who have been tasked with guiding their organizations through the ever-evolving landscapes of business and finance.

Cash Flow Optimizer David Safeer

Let’s start with lessons from the unconventional cash flow optimizer, David Safeer.??

David encourages finance leaders to think beyond traditional approaches to cash management and explore innovative strategies, cautioning against the dangers of being confined within a narrow framework when it comes to managing cash flow. He explains that conventional cash management strategies can sometimes backfire, such as paying expenses late, which can lead to strained relationships and ultimately impact a company's preferred status and increasing costs or reducing service.

He teaches that digging deep into the root causes of cash flow issues will unleash new and creative ideas.? Ask probing questions that will uncover the underlying issues rather than simply addressing the symptoms.?? This approach requires mentoring to all departments on how their actions influence cash flow.?? Customer and vendor terms negotiated by sales and procurement teams are primary drivers of cash required for working capital.?? Production efficiency and lead times in operations drive the need for cash committed to inventory (more detail on this in the next section). ?

David also warns about the negative impact accounting principles have on cash flow management. There is a disconnect between accounting practices and the actual generation and distribution of cash.??? A study published in the "International Journal of Economics, Commerce and Management" (IJECM) highlights that accrual accounting can create timing differences between recognizing revenue and the actual receipt of cash. This can lead to discrepancies in assessing a company's short-term cash position.? David urges finance leaders to get ahead of this issue by frequently communicating these differences with their executive team and board members.

Client management also plays a role in cash flow. David says finance is well positioned to evaluate the impact of losing money on clients and identifying clients that consume resources without generating proportional profit.? Certain clients, while profitable, may consume an excess amount of time and resources, highlighting the importance of evaluating the overall cost of client relationships for long-term success.

Take in David’s CFO Talk: Improving Cash Flow and visit his Library to learn more about making Cash an even better ally.?

The Cash Conversion Cycle

This section includes content is from the article, Cash Flow: Not Just For the CFO , by Rick Pay .

As noted above, cash flow is not solely under the CFO's domain. It's influenced by sales, operations, supply chain, and other departments.? How these departments are managed significantly affects the speed of cash flowing into and out of the organization.???

The cash conversion cycle (CCC) is a crucial metric, measuring the time it takes from spending cash on acquiring materials or services to receiving it back from customers.

Formula:?? Cash Conversion Days = A/R days + Inventory Days – A/P days.

Sales impact the CCC by offering payment terms, potentially slowing down cash flow.

Purchasing, responsible for negotiating accounts payable terms and driving inventory flow, also plays a vital role in the CCC.?? However, some purchasing practices, like extending payable terms, can strain suppliers.? If this strain puts them out of business, reduced supplier options may impact profits and cash flow negatively.

The behavior of the CCC is influenced by inventory management.

Companies with longer inventory cycle times have more cash tied up in storing raw materials, producing product and holding finished goods.? Efficient companies find ways to minimize each of these stages of production while preventing costly backlogs and quality issues.??

Engineering and product management influence the CCC through new product introductions and old product ramp-downs, reducing the number of items in inventory and the items available for sale.?? Both impact cash flow which must be considered in the new product introduction / old product ramp-down process.

Efficiency vs. Disruptive Thinking.? Simply increasing efficiency may save a few days in each component of the cycle, but substantial reduction requires disruptive thinking and innovation.

Concepts like supplier partnerships, effective payment discounts, product design for supply chain management, just-in-time inventory, and production can significantly cut the cash-to-cash cycle.

CFO.University refers to the Cash Conversion Cycle as Cash Velocity.

Cash Velocity Calculator is a tool for analyzing our investment in working capital. Use the Cash Velocity Calculator as a teaching tool with the other departments and as a cash improvement tool with your executive team. ??Here is a link to access the Cash Velocity Calculator .

The Weekly Cash Flow Forecast

Some of this sections content is from the article, Why Every Business Should Build Weekly Cash Flow Forecasts , by Marty Mooney .

Definition of the Weekly Cash Flow Forecast: The weekly cash forecast is used to project a company’s liquidity over the medium term, estimating the timing and amounts of cash inflows and outflows.? It’s applicable to businesses of all sizes and industries, providing a granular view often overlooked in monthly or yearly forecasts normal accrual driven accounting reports.

Optimal Forecasting Period: The recommended period for weekly cash flow forecasts is 13 weeks, aligning with a fiscal quarter.? This period balances giving the team enough time to react to changes while maintaining a reasonable degree of certainty.

Data, Analytics and AI are rapidly being incorporated into forecasting methods to improve accuracy and reduce time. At this free LinkedIn Live event on February 22nd four leading authorities on these topics, Prashanth H Southekal, PhD, MBA, ICD.D , Tobias Zwingmann , Arun Marar, Ph.D. and Sanjeev Chib, CPA, CA , will review their recently released report, 2024 Data, Analytics and AI Prediction and Prescription. Learn more about it and register for the event here, More on this event, please.

How the Weekly Cash Flow Forecast makes us better:

• Helps to prevents costly liquidity crisis's or worse.
• Enforces discipline through a "cash is king" mentality, revealing potential issues quickly.
• Enhances understanding of customers and suppliers through customer and supplier stratification and analysis.
• Assists in understanding the cost of growth, aiding in planning for growth and raising appropriate financing.
• Reduces the cost of capital by minimizing borrowing for interim payments.
• Increases communication with other departments as the finance team collaborates with colleagues.

Although the 13 Cash Flow Forecast is frequently associated with ‘troubled’ businesses, you can see by the list above, any business will benefit from the discipline and learning that takes place from preparing a?13 Cash Flow Forecast.??

How to construct the Weekly Cash Flow Forecast:

• Set up a spreadsheet with week-ending dates and rows for cash receipts and disbursements by significant category.
• Understand the business's sales and cash collection methods, considering contractual, recurring, one-time lump sum, or hybrid models.
• Focus on cash payments, schedule fixed payments, stratify vendors by payment terms and volume.
• Subtract disbursements from cash receipts for net cash flow. In case of a deficit, draw on credit or find ways to increase receipts or decrease disbursements.
• For planning purposes go through an exercise to determine what receipts and payments have the most 'flexible' or 'negotiable' terms. These are the customers and vendors to turn to first if cash is forecast to get tight.

CFO.University ’s tool, The 13 Week Cash Forecast model offers an easy format to develop a cash forecasting tool that will work for your business.

Since the direct method of preparing a cash flow forecast is quite different than preparing the Cash Flow Statement per normal accounting standards use the following mindset to help shift your thinking to cash flow forecasting,?

Focus on cash accounting, treating the business as a "shoe box" where only cash inflows and outflows matter.??? Disregard GAAP complexities and accrual methods, concentrating on cold, hard cash.? Cash flow forecasting is all about projecting when cash is coming in the door and when it is going out.?

The weekly cash forecast improves discipline, operational control, and offers insights into saving money, increasing revenues, reducing costs and managing cash flow effectively.

Summary

Cash management is simple - ?Optimize, Convert, Forecast – but it’s not easy. ?

Thank you for subscribing to the Future of Finance Leadership. The objective of the newsletter is to help you grow professionally by making you, your team & your business better. To the extent it is doing that, please share it liberally. To the extent it is not, please let me know. ????????

All the Best,

Steve Rosvold

Chief Learning Officer, CFO.University

CFO.University is a convenient, practical and performance enhancing development platform for CFO's, FDs, accounting, finance and treasury leaders.

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