Cash flow management
What is a cash flow statement?
A financial statement showing the cash inflows and outflows of a business over a period of time.
A business has:
Calculate the current ratio.
(2024 HSC Q24(a)(i))
$30,000 ÷ $20,000 = 1.5:1
Gross profit = $150 000 Sales = $400 000 Calculate gross profit ratio.
150,000400,000=37.5%
An Australian business imports products from the USA. The Australian dollar appreciates. What happens to the cost of the imports? (2017 HSC Q24(a))
The imports become cheaper in Australian dollar terms.
Which international payment method requires the buyer to pay before receiving the goods?
Payment in advance.
Describe how distribution of payments can improve cash flow.
It spreads cash payments over different periods, rather than requiring large amounts to be paid at once. This helps the business manage its available cash.
A business has a large amount of money tied up in inventory that is not selling quickly. Why could this create a problem for the business?
Money is tied up in inventory rather than being available as cash. This can reduce liquidity and make it harder for the business to meet short-term financial obligations.
Distinguish between fixed costs and variable costs.
Fixed costs remain constant regardless of the level of output, while variable costs change as output changes.
If non‑payment risk is 10% for clean payment and 2% for letter of credit on a $20 000 sale, calculate expected loss for each.
Clean payment:
20,000×0.10=2,000
Letter of credit:
20,000×0.02=400
Which international payment method involves the buyer's bank guaranteeing payment to the exporter, provided the conditions are met?
Letter of credit. It reduces the exporter’s risk of non-payment.
Explain how discounts for early payment can improve cash flow.
A business offers customers a discount for paying their accounts early. This encourages earlier payment, increasing cash inflows and improving the business's ability to meet short-term obligations.
A business has:
Calculate the current ratio.
Current assets = $10,000 + $25,000 + $15,000 = $50,000
Current liabilities = $20,000 + $10,000 = $30,000
$50,000 ÷ $30,000 = 1.67:1
What is the purpose of a cost centre?
A cost centre allows a business to track and monitor costs within a specific department or area, helping management identify inefficiencies and control expenses.
What is hedging, and why might a business use it?
Hedging is a strategy used to protect a business against unfavourable changes in exchange rates or interest rates. It can reduce financial risk and provide greater certainty over future costs.
A bill of exchange orders payment of $25 000 in 60 days. Interest rate = 5% p.a. Calculate interest for 60 days.
25,000×0.05×(60/365)=205.48
A business is owed $100,000 by customers but needs cash immediately to pay its suppliers. What cash flow management strategy could it use? Explain.
Factoring. The business can sell its accounts receivable to a finance company for immediate cash, improving cash flow and liquidity.
A business owns a valuable property but needs cash to meet its short-term obligations. It still wants to continue using the property. What strategy could it use?
Sale and leaseback. The business sells the property to generate an immediate cash inflow and then leases it back. This releases cash while allowing the business to continue using the asset, improving liquidity.
A business has experienced rising expenses but its sales revenue has remained stable. Explain how expense minimisation could improve profitability.
Expense minimisation involves reducing unnecessary or excessive costs. If expenses are reduced while revenue remains stable, the difference between revenue and expenses increases, resulting in higher profitability.
An Australian business imports stock from overseas and must pay its supplier in three months. Management is concerned that the AUD may depreciate before payment is due. Explain how this could affect the business and how hedging could help.
If the AUD depreciates, the imported stock will become more expensive in Australian dollars, increasing the business's costs. Hedging can protect the business against an unfavourable exchange-rate movement, reducing the uncertainty and financial risk associated with the future payment.
An Australian business is importing goods and wants to receive the goods before making payment.
Which international payment method would be most appropriate? Explain.
(2017 HSC Q24(b))
Clean payment. The importer receives the goods before making payment, reducing the importer’s financial risk compared with payment in advance.
Assess the effectiveness of cash flow management strategies in maintaining liquidity (2018 HSC Q24(b).)
Cash flow management strategies can improve liquidity by controlling the timing of cash inflows and outflows. Distribution of payments spreads expenses over time, discounts for early payment encourage faster customer payments, and factoring provides immediate cash from receivables. Therefore, these strategies can help ensure sufficient cash is available to meet short-term obligations and reduce liquidity problems.
Why is liquidity an important objective of financial management? ( 2018 HSC Q24(a).)
Liquidity measures the business's ability to meet its short-term financial obligations as they fall due. Maintaining liquidity helps the business pay suppliers, loans and other current liabilities on time. Poor liquidity can lead to financial difficulties even if the business is profitable.
A business has falling profits. Management wants to reduce its costs while also increasing sales. Explain how cost controls and revenue controls could improve profitability.
Cost controls such as monitoring fixed and variable costs, using cost centres and minimising unnecessary expenses can reduce the business's expenses. Revenue controls use marketing objectives to increase sales or revenue. If the business can reduce costs while increasing revenue, its profit will increase. Therefore, both strategies can contribute to improved profitability.
A business is expanding internationally and is exposed to both exchange-rate and interest-rate fluctuations. Explain how derivatives could assist the business in managing these risks. (2021 HSC Q19)
Derivatives are financial contracts that can be used to manage exposure to changes in variables such as exchange rates and interest rates. By using derivatives, the business can reduce the potential impact of unfavourable movements on its future financial costs or revenues. This provides greater certainty and helps reduce financial risk when operating internationally.
An Australian business is beginning to export overseas. Management is concerned that international customers may fail to pay.
Compare payment in advance and a letter of credit as methods of managing financial risk