Elements/Preparation of Cash Budget
Thus, the principal aim of the cash budget, as a tool to predict cash flows over a given period of time, is to ascertain whether at any point of time there is likely to be an excess or shortage of cash. The preparation of a cash budget involves various steps. These may be described as the clements of the cash budgeting system. The first element of a cash budget is the selection of the period of time to be covered by the budget. It is referred to as the planning horizon. The planning horizon means the time span and the sub-periods within that time span over which the cash flows are to be projected. There is no fixed rule. The coverage of a cash budget will differ from firm to firm depending upon its nature and the degree of accuracy with which the estimates can be made. As a general rule, the period selected should be neither too long nor too short. If it is too long, it is likely that the estimates will be' inaccurate. 'If, on the other hand, the time span is too small, many important events which lie just beyond the period cannot be accounted for and the work associated with the preparation of the budget becomes excessive.
The planning horizon of a cash budget should he determined in the light of the circumstances and requirements of a particular case. For instance, if the flows are expected to be stable and dependable, such a firm may prepare a cash budget covering a long period, say, .l year and divide it into quarterly intervals .. In the case of a firm whose flows are uncertain, a quarterly budget, divided into monthly intervals, may be appropriate. Where flows are affected by seasonal variations, monthly budgets, sub-divided on a weekly or even a daily basis, may be necessary. If the flows arc subject to extreme fluctuations, even a daily budget may be called for. The idea behind subdividing the budgeting period into smaller intervals is to highlight the movement of cash from one subperiod to another. The sub-division will provide information on the fluctuations in the cash reservoir level during the time span covered by the budget.
The second element of the cash budget is the selection of the factors that have a bearing on cash flows. The items included in the cash budget arc only cash items; non-cash items such as depreciation and amortization are excluded. The factors that generate cash flows are generally divided. for purposes of the construction of cash budget, into two broad categories: (a) operating, and (b) financial. This two-fold classification of cash budget items is based on their nature. While the former category includes cash flows generated by the operations of the firms and are known as operating cash flows, the latter consists of financial cash flows.
Operatlng.Cosh FlOws The main operating factors/items which generate cash outflows and inflows over the time span of a cash budget are tabulated in Exhibit 19.1.
Among the operating factors affecting cash flows, arc the collection of association receivable (inflow) and accounts payable (outflows). 111e terms of credit and the speed with which die customers pay would determine the lag between the creation of the accounts receivable and their collection. Also, discounts and allowances for early payments, returns from customers and bad debts affect cash inflows. Similarly, in the case of accounts payable relating to credit purchase. cash outflows are affected by the purchase terms. . The calculation of the collection on credit sales and payments en credit purchases, is generally done in the form of a statement known a the worksheet. The results are subsequently incorporated in the cash budget. We illustrate in Example 29.4 how the credit policy of a firm and the purchase terms affect cash flows.
Financial Cash Flow: The major financial Factors/ Items affecting the generation of cash flows are depicted.