Cash budget is the budget which present expected cash inflow and outflow of the entity for the designated time period. Cash budget is prepared for purpose of cash planning and control.
The following are advantages of using a cash budget as management control tool:
Cash budget help to determine whether cash balance remain sufficient to fulfil regular obligations and whether minimum liquidity and cash balance requirements stipulated by bank or internal company regulations are maintained. It helps the company determine whether too much cash is retained that could be otherwise used in productive activities. Companies that borrow from banks need to monitor their cash coverage ratios and preparing a cash budget constitutes the step in calculating this ratio.
Preparing a cash budget shed light on where cash goes. Individuals and companies can analyse each item of expenditure to determine the purpose of such expenditure and the value received in return for the expenditure. This allows them to cut down on unproductive expenses, bring in financial efficiency and improve the quality of financial decisions.
companies use cash budget to make plans for optimal utilization of cash. the goal is to retain only the minimum required working capital, investing the surplus cash in productive ventures, such as making profitable investment, expanding productive capacity, purchasing raw materials in bulk and using cash to obtain discounts. Companies hard-pressed for cash can take many steps to improve their position such as reducing credit sales, postponing or reducing dividends, collecting credit early, rescheduling debt repayments and other payouts, cutting back on manufacturing products that require resources but do not yield much cash in short term and so on. companies also look at cash budget to determine the extent of cash available, if any, to finance capital expenditure.
Cash budget identify amount of cash required to fulfil immediate short term obligations without utilization of overdraft protection or lines of credit. Business use this information to determine the extent of credit sales. Offering credit and extending credit periods usually increases sales. A company with excess cash can afford to sell on credit and thereby boost profitability. Conversely, a company hard-pressed for cash might decide to sell product at discounted prices for cash. Offering such discounts may be cheaper than the cost of overdraft fee or credit interests