Control of payables

By controlling its payables properly, a firm can conserve its cash resources. This involves several things:

1. Payments should be made only as and when they fall due.
2. Payables and their disbursement can be centralized. This helps in consolidating working funds at the head office, scheduling payments more effectively, reducing unproductive bank balances at the regional/local offices, and investing surplus funds more effectively.
3. Arrangements can be made with suppliers to set the due dates of their bills so that they match the company’s period of peak receipts. Synchronization, of cash outflows and inflows helps a company to get greater, mileage from its cash resources.

Playing the float:
When a firm issues a check, the balance in its book is received. In the bank’s book, however, the balance is not reduced till the payment has been made by the bank. The amount of checks issued by the firm but not paid for by the bank is known as the ‘payment float’.

Now consider what happens when a firm receives a check and deposits it with its bank. The firm increases the balance in its books, but in the bank’s books it is not increased until the check has been cleared. The amount of checks deposited by the firm in the bank but cleared is referred to as the collection float. The difference between the payment float and the collection float is called the net float. When the net float is positive, the balance in the books of the bank is higher than the balance in the books of the firm. So long as the bank shows a positive balance, a negative cash balance in the books of the firm may not be viewed with alarm. If a firm enjoys a positive net float it can issue checks even if it means having an overdrawn bank account in its books. Such an action is referred to as playing the float and its considered risky. Within limits, however a firm can play this game with reasonable safety and get a higher mileage from its cash resources,

Investment of Surplus Funds:
Companies often have surplus funds for short periods of time before they are required for capital expenditures, loan repayment, or some other purpose. These funds may be deployed in a variety of ways. At the end of the spectrum is the term deposit (to be made for a minimum period of 30 days) in a bank, virtually a risk free investment, that offers a relatively modest rate of interest; at the other end of the spectrum is the investment in equity shares which can produce highly volatile returns. In between lie several avenues like shares of mutual funds schemes, public sector bonds, treasury bills, inter corporate deposits, and bill discounting. This article looks at the options available for deploying surplus funds.

Units/Shares of Mutual Fund Schemes: A wide range of mutual fund schemes are available in India. A firm with short term surplus funds may participate in open end schemes as they ensure ready liquidity. These schemes accept funds as well as permit withdrawals on a continuing basis. The most appropriate open end schemes for short schemes. These schemes invest in money-market instruments like treasury bills, Commercial paper and certificates of deposit.

Ready Forwards: A commercial bank or some other organization may do a ready forward deal with a company interested in deploying surplus funds on a short term basis. Under this arrangement the bank sells and repurchases the same securities (this means that the company in turn buys and sells securities) at prices determined before hand. Ready forwards are permitted only in certain securities. The company earns a return in the form of price difference (between the buying and selling rates) and not in the form of an interest income. From the tax point of view, however, both the incomes are treated alike. The return on a ready forward deal is closely linked to money market conditions. Note that the money market tends to be tight during the busy season as well as at the time of year closing.

Treasury Bills represent short term obligations of the central government which have maturities like 91 days, 182 days, and 364 days. They do not carry an explicit interest rate (or coupon rate). They are instead sold at a discount and redeemed at par value. Hence, the implicit interest rate is a function of the size of the discount and the period of maturity. —