Cash Management Practices in Small Companies

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Harvard Business School

9-699-047
December 4, 1998

Cash Management Practices in Small Companies
Of all the disciplines that a small company must master to grow and succeed, none may be more important than cash management. While a strong cash management system can ensure that a company maintains adequate cash levels to meet its operating and investment requirements, an inadequate cash management system can lead to a company’s failure to meet its financial commitments. All too often, poor cash management systems have led small business managers to liquidate or reorganize under Chapter 7 or 11 of the Bankruptcy Code. Most small business managers claim that cash management is their leading concern. Often walking a tightrope between growth and illiquidity, small business managers face different cash management challenges than their counterparts in larger companies. Compared to larger firms, small businesses often have under-staffed and under-trained accounting staffs, volatile cash flows dependent on a single product line, limited access to new capital, and a significant share of their net worth tied up in working capital. These limitations are often compounded by management’s focus on growth, which can put additional pressure on the cash management system by increasing net working capital requirements. Yet, despite its importance, few small business managers can dedicate significant time managing cash. Most develop a set of techniques to avoid cash crises, but many of these “systems” are as basic as matching receivables to payables. Most cash management systems in small companies employ a fraction of the tools available to them, as small business managers rarely have a forum to transfer knowledge about management practices. While each company has certain strategies that are more appropriate for it depending on the type or size of its business at a given time, the goal of this Note is to provide managers with a broader universe of specific techniques used by small businesses to manage cash. This Note uses the following three-part model of cash management systems to provide a framework for a discussion of best practices. 1) Cash Cycle Policies and Tactics. Managing the cash cycle through active management of accounts payable, inventory, and accounts receivable. 2) Forecasting and Review Processes. Short-term and long-term efforts to understand the current cash position, anticipate cash requirements, prioritize uses of cash, identify variances, and reinforce a culture of prudent cash management within the organization.

Andrew R. Jassy (MBA ’98), Laurence E. Katz (MBA ’98), Kevin Kelly (MBA ’98), and Baltej Kochar (MBA ’98) prepared this Note under the supervision of Professor Kent Bowen as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. Copyright © 1998 by the President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685 or write Harvard Business School Publishing, Boston, MA 02163. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School.

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Cash Management Practices in Small Companies

3) Organizational Design and Incentive Systems. The allocation of decision rights among employees to ensure effective execution of the cash management and incentive systems, which help focus the organization and its management team on meeting its cash objectives.

Cash Cycle Policies and Tactics
Managing the cash cycle is at the center of a cash management system. Broadly, the cash cycle refers to the outflows and inflows of cash associated with the conversion of raw materials into finished goods and later into accounts receivable. The longer the cash cycle, the more days the...
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