• Helping Businesses
    Grow Profitably

  • Call 1-844-647-6984

  • Cash management – one way to manage your working capital

  • Cash management is essentially the process of managing working capital. One way to get a high level view of your business is to calculate its cash conversion cycle. This is the time that it takes to convert cash outflows that are needed to produce goods into cash through sales and collection of accounts receivable.  An example would be for CN Railway using their 2010 annual financial statements:

    34.1 Days Receivable-$775 (Accounts Receivable)/$8,297 (Sales) x 365 days
    14.5 Days Inventory-$210 (Material and Supplies)/$5,273 (Operating Expenses) x 365 days
    (46.7) Days Payable-$675 (Trade payables and payroll)/$5,273 (Operating Expenses) x 365 days
    Net Total of 1.9 Days

    In their case, receivables and inventory are almost entirely financed by payables, so an increase in sales will require a minimal increase in working capital.

    Management of a business should calculate the cash conversion cycle separately for different lines of business and for different geographic areas. A consolidated set of financials can mask significant differences between different businesses and countries.

    The cash conversion cycle can be speeded up by collecting receivables faster, lowering inventory levels, and stretching payable payments. These actions can however have consequences. Speeding up collections by implementing stricter collection and credit policies can reduce sales, as slow paying customers may no longer qualify for credit and other customers may switch to suppliers who do not demand payment as quickly. Reducing inventory may increase the chances of having to stop production because materials may have run out, or turning away business because the inventory to produce certain products may not be on hand. Stretching payments to suppliers can result in missed discounts, late charges, higher prices to finance delayed payments and delayed shipments until payment is received.

    Accounts Receivable

    Management of accounts receivable is influenced by a company’s credit policies, billing procedures and collection practices.

    1.    Credit policies and terms are critical for determining a company’s credit exposure.  This will determine the risk profile of the customer and your credit exposure (credit limit).
    •    Have a procedure to set and approve credit limits – Your gut is a bad prescription.
    •    Use a credit application form to gather information and obtain permission to gather information from third parties such as credit rating agencies, banks and other suppliers.
    •    Ask for financial statements.
    •    Use credit agency reports and set up alerts for significant changes in ratings so that you can review a customer’s credit limit, based on the reasons for the change.
    •    Review all credit limits at least annually and larger limits more frequently.

    2.    The information system that monitors AR should be integrated with the credit policies and terms, so that sales are in compliance and it will facilitate receivables management such as aging receivables.

    3.    How soon after shipment are sales invoiced? Delays in invoicing mean delays in receiving cash. A number of companies pay based on when they receive the invoice rather than the invoice date. How are the invoices delivered? Electronically, fax or mail?

    4.    How are you being paid?
    •    Electronic credit to your bank account eliminates problems in collection. Either you have been paid or not.  You can make this part of your terms of sale.
    •    Cheques in the mail result in payment delay (mail float), deposit delays (going to the bank), uncertainity about payment (did they really issue the cheque) and risk of a mail strike delaying payment.
    •    Reduces fraud as payments are made through the banking system so risk of cheque diversion is eliminated.

    5.    Do you have collection procedures about how overdue payments are followed up, who follows up, how they follow up and how they report progress to management?
    •    Calculate days sales outstanding taking account of seasonality and analyze reasons for changes.
    •    Set targets and compensate collections people for achieving them.
    •    Make collections someone’s job and include it in their job description. Specify time to be allocated.
    •    Collection calls should be polite and professional with the aim of moving your invoice(s) to the top of the pile.
    •    Keep notes, follow up and diarize. Consider collection software.
    •    Call before payment is due and shortly after, if it is not received. They must anticipate receiving the call. Establish a relationship.
    •    Call at least weekly, when the invoice is overdue.
    •    Ask for a commitment to pay. Ask for post-dated cheques.
    •    Make it easy for them to pay by picking up cheques and accepting credit card payments.
    •    Consider offering discounts for payment now.
    •    Review the credit terms with them.
    •    Management must manage the collection process.
    •    Cut them off until they pay
    •    Consider deposits/retainers/progress payments to reduce exposure.
    •    Negotiate and renegotiate payment terms.
    •    Escalate if not making progress on receiving payment, by using collection agencies and as a last resort, lawyers.

    6.    If you have a few larger  customers, you may get a better result  by having one person establishing an ongoing dialogue with them.

    7.    If your sales force is compensated by commission, consider changing the commission structure so that they are paid when the customer pays you.


    Inventory is critical to most company’s sales and production activities. The amount of inventory being held depends on the company’s objectives.
    Sales change over time so it is useful to determine how many months of sales each inventory item represents based on say the past 3 month’s sales/production  volume.
    Consider your supply lines, their length and the risk of interruption, and set policies accordingly.

    For most slow moving inventory, focus on the maxim “cash is king” and liquidate it.
    The information system that monitors inventory should be integrated with the production or sales systems to facilitate determination of aging, economic order quantities, supply alternatives, etc.

    Accounts Payable

    The primary objective is to make authorized payments to suppliers on a timely basis at an appropriate cost.

    1.    Consider using purchasing and other credit cards for high-volume, low dollar purchasing to, reduce processing costs, allow front end controls on types of purchases, and improved spending reporting.  This can aid in negotiating supply agreements for specific types of purchases, such as office supplies.

    2.    Consider using electronic payments to pay suppliers, which will eliminate the costs of issuing cheques, reconciling and use of bank services such as positive pay to reduce fraud.

    3.    Electronic payments will also ensure that suppliers receive payments on time to earn cash discounts. A 1% discount for paying earlier is currently significantly more than the interest that can be earned on investing surplus cash.

    4.    Consider using payee positive pay, in addition to regular positive pay which just checks the cheque number and amount, against the issue file that you send to the bank.

    5.    Analyze your trade payables to determine which payables can be stretched without penalties. There are significant penalties for not paying some obligations on time such as payroll, and taxes in general. Utilities can and do shut off access to their services for non-payment.

    6.    Stretch your credit terms with selected suppliers to determine how sensitive they are to delays in payment.  Explore the limits of their tolerance.

    A focus by the CFO of a business on the management of the cash conversion cycle will often reduce significantly the working capital tied up in the operations of the business and release cash for re-investment. An excellent way to improve, and ensure that this focus is maintained, is to change the bonus structure to link the bonus to achieving working capital targets.


    David Balmer is a Chartered Accountant with over twenty years of Treasury experience with companies such as RJR Nabisco, Cott Corporation and Maple Leaf Foods Inc. He has presented at treasury conferences in Canada and the United States. He has also earned treasury designations from treasury organizations in both the United States and United Kingdom.

    James Phillipson is a Chartered Accountant and a Principal of Mastermind Solutions Inc., with over twenty years experience in large and small businesses.  He has provided financial counselling to his clients since 1996, often in the role of or as a coach to a Controller or Chief Financial Officer.  James has experience in financial roles in a wide variety of businesses and industries.