Cash Budget

Cash Budget
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A cash budget is a budget or plan of expected cash receipts and disbursements during the period. These cash inflows and outflows include revenues collected, expenses paid, and loans receipts and payments. In other words, a cash budget is an estimated projection of the company's cash position in the future and ascertain whether company operations and other activities will provide a sufficient amount of cash to meet projected cash requirements. If not, management must find additional funding sources.

The need for preparing the cash budget[edit]

A cash budget is important for a variety of reasons. For one, it allows to make management decisions regarding your cash position (or cash reserve). Without the type of monitoring imposed by the budgeting process, you may be unaware of the cycle of cash through the business. At the end of a year or a business cycle, a series of monthly cash budgets will show just how much cash is coming into the company and the way it is being used. Seasonal fluctuations will be made clear. A cash budget also allows to evaluate and plan for the capital needs. The cash budget will help assess whether there are periods during the operations cycle when it might need short-term borrowing. It will also help to assess any long-term borrowing needs. Basically, a cash budget is a planning tool for management decisions (J. A. Turnes, 2013).

Types of cash budgets[edit]

A cash budget details a company's cash inflow and outflow during a specified budget period, such as a month, quarter or year. We can list several types of budgets (A. Mungal, H. L. Garbharran, 2014):

  • Short-term cash budgets aim to solve cash requirements on a weekly or monthly basis. These budgets help forecast the payments that need immediate fund allocation and identify sources that can help offset this requirement. Short-term budgets also help determine short-term investments that can earn interest while the fund is not being used.
  • Interim-Term Budgets are typically meant for 12-month periods. These are usually created at the end of the year for the succeeding period based on the current year's transactions. When preparing the budget, management takes into account aspects such as seasonal variations in business and cyclical changes that change the dynamics of the budget, apart from considering the routine income and expenses. Based on these estimations, they make decisions regarding annual borrowing requirements and accumulated accounts receivable plans. Interim budgets also provide for annual increments to employees, principal loan payouts and insurance payments.
  • Long-term cash flow budgets are predominantly spread over several years. These budgets aid strategic decision-making such as capital investments in machinery and infrastructure, business diversity plans and manpower projections costing. Based on the long-range forecast, the company builds sustainable cash reserves that help in the execution of the plans. Management creates long-range budgets from which various interim and short-term budgets are derived for the respective time periods.

How to prepare a cash budget[edit]

There are three main components necessary for creating a cash budget. They are (J. A. Turnes, 2013):

  • Time period
  • Desired cash position
  • Estimated sales and expenses

Time period.

The first decision to make when preparing a cash budget is to decide the period of time for which the budget will apply.

Desired cash position.

The amount of cash that wish to keep on hand will depend on the nature of your business, the predictability of accounts receivable and the probability of fast-happening opportunities (or unfortunate occurrences) that may require to have a significant reserve of cash. It is good to consider the cash reserve in terms of a certain number of days' sales. The budgeting process will help to determine if, at the end of the period, there is an adequate cash reserve.

Estimated sales and expenses The fundamental concept of a cash budget is estimating all future cash receipts and cash expenditures that will take place during the time period. The most important estimate you will make, however, is an estimate of sales. Once this is decided, the rest of the cash budget can fall into place. Each type of expense (as shown on your income statement) must be evaluated for its potential to increase or decrease. The estimates should be based on the experience running the business and on the goals for the business over the time frame for which the budget is being created. At a minimum, the following categories of expected cash receipts and expected cash payments should be considered:

Cash balance:

  • Expected cash receipts
  • Cash sales
  • Collections of accounts receivable
  • Other income

Expected cash expenses:

  • Raw material (inventory)
  • Payroll

Other direct expenses:

  • Advertising
  • Selling expenses
  • Administrative expense
  • Plant and equipment expenditures
  • Other payments


Author: Katarzyna Górna