We have all heard the age old saying, “cash is king.” When the pandemic first started, many tax-exempt organizations were concerned with cash flow and making it through what was first thought to be a month or two. Organizations were closely monitoring their cash flow, even going as far as preparing daily cash flow projections. Then the stimulus funding started rolling in. Many organizations became flushed with cash and were no longer monitoring cash flow as closely as all of a sudden, the worry wasn’t as imminent. However, now that pandemic funding has dried up and costs have increased significantly, cash flow is more critical than ever. If you haven’t already started, this is the perfect time to monitor cash flow and dust off your cash management procedures.
When looking at an organization’s financial statements we often get wrapped up in the surplus or deficit that an organization has generated. While this is a critical number, a positive bottom line does not always indicate positive cash flow. An organization’s surplus may be tied up in accounts receivable or inventory and may not be available for day-to-day operations. That is why it is important to review an organization’s cash flow statement. I have found that this statement is often overlooked as it can be difficult to understand, even for some accountants. The key line on a cash flow statement is the cash flow from operations. Cash flow from operations indicates the amount of money an organization brings in or uses from its regular business activities. The more positive this number is, the better an organization is cash flowing. If this number is negative, it is indicating the organization is using more cash in its operations than it is generating. This could be an indicator of future financial issues.
To manage your cash flow, you must first know your current cash position. Do you know your organization’s cash balance right now? You would be surprised how many organizations have operating cash accounts that are not reconciled throughout the year. Not only does this not allow an organization to make timely decisions, but it is also risky. If there was any fraudulent activity it would not be detected timely, and the organization may lose money. The bank and insurance company will not cover those losses when you aren’t prudent. Keeping your organization’s accounts reconciled on a regular basis will also allow you to make critical decisions.
Not only should your organization know the current cash balance, but it must have cash flow projections in order to make prudent decisions. Cash flow projections show the expected amounts of cash that will be collected along with what will go out as expenses over a period. How far out cash flow projections go is up to each organization. It is recommended they are at least for a 13-week period. “Why 13-weeks?” you may ask. Well 13-weeks provides enough sight to make strategic decisions, while remaining short-term enough to be able to provide a high degree of accuracy.
Here are some tips for creating a cash flow projection:
- Develop your assumptions carefully based on your organization’s history and expected changes. Key assumptions are when receivables will be collected and when major expenditures will be required. When determining the timing of receivable collections, review when those receivables have historically been collected and the financial condition of your customers. For major expenditures, first detail out when regular expenditures usually occur. With payroll being most organizations’ largest expenditure, don’t forgot to anticipate those three-pay period months.
- Compare your budget to actual results. Tax-exempt organizations spend countless hours preparing their budgets. Use those budgets to determine what cash has come in so far and what is expected in the future. Reviewing your budget can also bring to your attention any major expenditures yet to be paid and the historical timing of those expenditures. Using your budget will help determine timing and the amount of those costs.
- Do not forget about the cash outflows that you do not see on your profit or loss statement. These cash outflows include capital purchases, loan repayments, and required prepayments for items such as required insurances.
A critical component of cash management procedures is having an appropriate available line-of-credit. Review the line-of-credit balances available to your organization. Is your current available balance sufficient in case of a significant delay in cash payments? Is your line-of-credit at risk of being pulled by your bank? We are often asked how much an organization should have available on a line-of-credit. A general rule of thumb is at least 2 months of expenditures.
In addition to knowing your current cash balance and cash flow projections, your organization should monitor days cash on hand. Days cash on hand is a measure of how many days an organization can operate with the current cash it has available. Days cash on hand is calculated as available cash divided by daily cash operating expenses. A tax-exempt organization should have at least 30 days cash on hand, but preferably 90 days.
As organizations experience significant cost increases, it is important to understand when those costs will be payable. Having effective cash management procedures will enable your organization to face the unknown challenges head on. Cash management continues to be critical and will mean the difference between organizations that survive and thrive.
If you need further guidance or have any questions on this topic, we are here to help. Please do not hesitate to reach out to discuss your specific situation.
This material has been prepared for general, informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. Should you require any such advice, please contact us directly. The information contained herein does not create, and your review or use of the information does not constitute, an accountant-client relationship.