2.5 Cash — The lifeblood of organisations (1)

There are two outlooks here, the long-term one about annual in- and outflows that make up the organisations activities over years and the short-term ones associated with current transactions. Maintaining a balance between those two is important for an organisation.

To interpret financial statement they have to be received first and some companies need to publish financial results, e.g. publicly traded ones. You should read the data, draw your first conclusions and then calculate some ratios (ROCE, ROI, asset turnover, return on sales, current, liquidity, stock turnover, debtors and creditors turnover,). Outside parties could use these statements to assess creditworthiness as it gives clue to its ability to survive and grow. Internal data can be analysed in the same way and remember that external documents are under review to see if bad sides cannot be hidden in compliance with governing body’s laws.

To start a company or expand, cash is needed which will flow from cash to acquiring products, building products, selling these products and getting back cash. There are some accounting terms that should be known:

\- expenses (anything producing costs and that will be used up)

\- stock (cost of items that are not yet used up)

\- fixed assets (premises, equipment, used for the long-term)

Stock is part of something called working capital (or net current assets) which can include:

\- debtors (accounts receivable, within 12 months)

\- creditors (accounts payable, within 12 months)

\- cash

\- accrued expenses, revenue, revenues received in advance and prepayments (used to reflect some things on the balance sheet at the end of a period)

Fixed assets should be bought with money that does not need to be repayed in a long time because otherwise repaying might require selling the fixed asset. Long-term loans should not be used to pay for short term assets as profit could be used for repaying these short term loans. If there is a continuous lag between inputs consumed and money received, long-term systems can be used.

Remember that raising cash has a cost to it, namely the cost of capital which can also be an opportunity cost and you should only lend for how long you need it.

There are several characteristics for capital for for-profit companies:

Capital:

\- either permanent

o in relation to the owner/partner where there is no difference between assets of the organisation and the partner

o shareholders who is in general not liable for the depts

\- or redeemable

o redeemable preference shares

o loans

o financial instruments

\- either long term (permanent is always long-term)

\- or short term (overdrafts are generally not included in the sources for capital as they are short-term)

\- either secured (to reduce probability of losing money; mortgage loans on machines)

\- or unsecured (paid off before shareholders get money in liquidation)

\- either fixed rewards (also applies for preference shares which are paid first at a fixed rate in case of dividends)

\- variable rewards

It should be remembered that retaining profits might lead to larger profits if used right. Because they can be paid out at any time they are argued to be short-term and are often converted to long-term financials by issuing new shares to existing shareholders, reducing the amount of retained profits by an equal amount.

In public sector organisations the permanent capital comes from the government but sometimes these organisations can also get short- or long-term loans. In general, fixed assets are accumulated over many many years and finances by general revenue and by loans. Governments need to raise capital to cover costs which results in a budget deficit. Mostly, security is provided by governments and sometimes on the private assets of the taxpayers. Taxes can be said to have an opportunity cost in relation to the taxpayer investing the money.

Another field are private non-profit organisations, who use donations to cover their operating costs. This money does not have to be repaid but donors are entitled to assurance that they money is used for what they paid it for (arguably effectively and efficiently).

The organisations and investors have to be brought together, which might be pension and life-assurance fund managers, banks, multinational investment corporations or government bodies on one end and intermediaries which deal with small businesses and non-profit clubs. Capital is provided at a cost that reflects demand and supply.