Cash Budgeting & Short-Term Financial Planning: Techniques, Tools & Real-World Applications

TAKEAWAYS:

• Cash budgeting is a rolling forecast of inflows/outflows that ensures liquidity while optimizing short-term investments.
• The 12-month cash budget (monthly/quarterly) aligns operational cash needs with financing sources (debt, equity, or retained earnings).
• Key components include cash receipts (sales, loans), cash disbursements (payments, investments), and minimum cash balance (e.g., Rs 20,000 for Bhulke Manufacturing).
• Variance analysis compares actual vs. budgeted cash flows to adjust strategies (e.g., delaying payments if surplus exists).
• Financing gaps are bridged using short-term tools like bank overdrafts, commercial paper, or trade credit (e.g., 2/10 net 30 terms).
• Seasonal businesses (e.g., Kathmandu’s monsoon retail shops) use cash budgets to time loans for inventory purchases before peak sales.

1. What is Cash Budgeting?

Cash budgeting is a short-term financial planning tool that estimates a firm’s cash inflows and outflows over a defined period (typically 12 months) to ensure:

• Liquidity: Avoiding cash shortages or excesses.
• Optimal investment: Parking surplus cash in marketable securities (e.g., T-bills, commercial paper).
• Financing decisions: Identifying when to borrow or repay debt.

Why is it critical?

• Prevents insolvency: Even profitable firms fail due to cash flow mismatches (e.g., a Kathmandu garment exporter with high receivables but no cash).
• Guides working capital policies: Links inventory, receivables, and payables management.
• Supports capital structure: Helps decide between conservative (high cash), aggressive (low cash), or matching approaches.

2. Components of a Cash Budget

A cash budget has three primary sections:

3. How to Prepare a Cash Budget: Step-by-Step

Use this mermaid flowchart to visualize the process:

flowchart TD
    A["Start: Gather Data"] --> B["1. Project Cash Receipts\n(Sales, Loans, Other Income)"]
    B --> C["2. Project Cash Disbursements\n(Expenses, Payables, Investments)"]
    C --> D["3. Calculate Net Cash Flow\n(Receipts - Disbursements)"]
    D --> E["4. Determine Beginning Cash Balance\n(Previous month’s ending balance)"]
    E --> F["5. Compute Ending Cash Balance\n(Net Cash Flow + Beginning Balance)"]
    F --> G["6. Compare with Minimum Cash Balance\n(Adjust via Financing if Needed)"]
    G --> H["7. Prepare Final Budget\n(Monthly/Quarterly Projections)"]

Worked Example: Bhulke Manufacturing (May–July)

Given:

• Minimum cash balance: Rs 20,000.
• May beginning balance: Rs 15,000.
• June sales (30% cash, 70% credit): Rs 800,000 (2/10 net 30 terms).
• July purchases: Rs 500,000 (paid 50% in July, 50% in August).
• Salaries: Rs 100,000/month.
• Taxes: Rs 50,000 due in July.

Step 1: Project Receipts

• June cash sales: 30% of Rs 800,000 = Rs 240,000.
• May credit sales collected in June: Assume 60% of May’s Rs 600,000 sales = Rs 360,000.
• Total June receipts: Rs 240k + Rs 360k = Rs 600,000.

Step 2: Project Disbursements

Step 3: Net Cash Flow

• June: Rs 600,000 (receipts) – Rs 350,000 (disbursements) = +Rs 250,000.
• July: Rs 560,000 (receipts: 30% of July sales + May’s 40% collection) – Rs 400,000 = +Rs 160,000.

Step 4: Ending Balances

• June ending: Rs 15,000 (May) + Rs 250,000 = Rs 265,000 (surplus).
• July ending: Rs 265,000 + Rs 160,000 = Rs 425,000.

Action: Invest surplus in T-bills or repay short-term debt.

4. Real-World Applications in Nepal

Example 1: eSewa’s Cash Flow Management

• Idea Used: Cash budgeting for seasonal transactions.
• How:
  • eSewa projects cash receipts from utility bill payments (peaks in June/July) and disbursements to NTC/Ncell.
  • Maintains a minimum cash buffer to cover sudden demand spikes (e.g., festival seasons).
  • Uses short-term loans to bridge gaps when collections lag behind payments.

Example 2: Daraz Nepal’s Inventory Financing

• Idea Used: Cash budget to time supplier payments.
• How:
  • Daraz’s cash budget forecasts seller payouts (70% of GMV) vs. payment to suppliers (e.g., Rs 200M/month).
  • If net cash flow is negative, Daraz delays non-urgent payments or uses trade credit (e.g., 30-day terms from suppliers).
  • Surplus cash is invested in liquid assets (e.g., commercial paper) for 3–6 months.

Example 3: Kathmandu Retail Shop (Monsoon Season)

Scenario: A shop selling raincoats and umbrellas has:

• Peak sales: June–August (Rs 1.2M/month).
• Off-season: Rs 300k/month.
• Supplier terms: 30-day credit.

Cash Budget Impact:

• June (Peak):
  • Receipts: Rs 1.2M (70% credit, 30% cash).
  • Disbursements: Rs 800k (inventory) + Rs 100k (salaries) = Rs 900k.
  • Net cash flow: +Rs 300k → Invest in bank FD for 3 months.
• September (Off-season):
  • Receipts: Rs 300k.
  • Disbursements: Rs 200k (inventory) + Rs 100k (salaries) = Rs 300k.
  • Net cash flow: Break-even → Use surplus to repay short-term loans.

5. Cash Budgeting Techniques

A. Rolling Cash Budget

• Definition: A 12-month budget updated monthly/quarterly (e.g., drop January, add April).
• Advantage: Adapts to unexpected changes (e.g., COVID-19 lockdowns in 2020).
• Example: A Kathmandu hotel updates its cash budget monthly to account for tourist arrivals.

B. Zero-Based Budgeting

• Definition: Start from zero cash balance each period; justify every inflow/outflow.
• Use Case: Startups or firms with high variability (e.g., event management companies).

C. Activity-Based Budgeting

• Definition: Links cash flows to specific activities (e.g., marketing campaigns, production runs).
• Example: A Nepali app developer budgets Rs 500k for a new feature launch, tracking:
  • Receipts: Pre-orders (Rs 200k).
  • Disbursements: Developer salaries (Rs 150k), server costs (Rs 100k).

6. Handling Cash Surpluses and Deficits

A. If Cash Surplus Exists

B. If Cash Deficit Exists

7. Cash Budget vs. Cash Flow Statement

8. Common Pitfalls in Cash Budgeting

1. Ignoring Seasonality: A tourism hotel in Pokhara must budget for peak (Dec–Jan) vs. off-season (Monsoon).
2. Overestimating Receipts: Assuming all credit sales will be collected on time (e.g., Nepal’s delayed payment culture).
3. Underestimating Disbursements: Forgetting tax payments or unexpected repairs.
4. Static Budgets: Not updating for inflation (e.g., Rs 100k salaries may rise to Rs 120k).
5. No Contingency: No buffer for emergencies (e.g., earthquake repairs).

9. Short-Term Financial Planning

Cash budgeting feeds into broader short-term financial planning, which includes:

1. Working Capital Financing:
   • Conservative: High cash reserves (e.g., banks).
   • Aggressive: Minimal cash, high risk (e.g., startups).
   • Matching: Finance short-term needs with short-term debt (e.g., trade credit).
2. Liquidity Management:
   • Current Ratio = Current Assets / Current Liabilities (aim for 1.5:1).
   • Quick Ratio = (Current Assets – Inventory) / Current Liabilities (aim for 1:1).
3. Short-Term Investments:
   • Treasury Bills (T-bills): Safe, 3–6 months (e.g., Nepal Rastra Bank’s T-bills).
   • Commercial Paper: Issued by firms (e.g., NMB Bank’s CP).
   • Money Market Funds: Pooled investments (e.g., Global IME’s money fund).

10. Exam Tip: How to Score Full Marks

Do’s:

✅ Structure your answer like this:

1. Definition (1 mark).
2. Components (with examples, 2 marks).
3. Worked example (3 marks).
4. Real-world application (1 mark).
5. Conclusion (1 mark).

✅ For numerical questions:

• Show all steps (even if partial marks are given).
• Use clear headings (e.g., "Cash Receipts", "Disbursements").
• Highlight the final answer (e.g., "Deficit of Rs 50,000 → Borrow Rs 50,000").

✅ Memorize key terms:

• Cash Conversion Cycle (CCC): Inventory period + Receivables period – Payables period.
• 2/10 net 30: 2% discount if paid in 10 days, else full payment in 30 days.
• Minimum cash balance: The cushion to avoid insolvency (e.g., Rs 20k).

Don’ts:

❌ Assume all sales are cash: Always split into cash vs. credit (e.g., 30% cash, 70% credit). ❌ Ignore opening/closing balances: Start with last month’s ending balance. ❌ Forget financing: If deficit > minimum balance, explicitly state how to fund it (e.g., "Borrow Rs X short-term").

Sample Exam Answer (2/10 net 30)

Question: Explain the meaning of 2, 10, and net 30 in the credit term "2/10 net 30." Answer:

• 2: Discount percentage (2% off if paid early).
• 10: Discount period (within 10 days).
• Net 30: Full payment due in 30 days if discount is not taken. Example: A supplier offers 2/10 net 30 for Rs 100,000.
• Option 1: Pay Rs 98,000 (100,000 – 2%) within 10 days.
• Option 2: Pay Rs 100,000 in 30 days. Real-world tie: Daraz sellers use this to manage cash flow by paying early for discounts.

11. Practice Questions (Self-Assessment)

1. Numerical: Prepare a 3-month cash budget for a Pokhara tea stall with:

   • May sales: Rs 400k (40% cash).
   • June purchases: Rs 250k (paid 50% in June).
   • Minimum cash balance: Rs 10k.
   • May ending balance: Rs 5k.

2. Conceptual:

   • How would Khalti’s cash budget differ from a traditional bank’s? (Hint: Transaction volume vs. loan disbursements.)

3. Short Answer:

   • Why might a Nepali exporter prefer aggressive working capital financing over conservative?

12. Key Formulas to Remember

13. Visual Summary: The Accounting Cycle vs. Cash Budgeting

flowchart LR
    A["Start: Gather Data\n(Sales, Expenses, Loans)"] --> B["Prepare Cash Budget\n(Monthly Projections)"]
    B --> C["Monitor Actual vs. Budget\n(Variance Analysis)"]
    C --> D["Adjust Strategies\n(Borrow/Invest as Needed)"]
    D --> E["End of Period\n(Update for Next Cycle)"]
    E -->|"Loop"| A

14. Final Checklist Before Exams

• Can you define cash budgeting and list its 3 components?
• Can you prepare a 3-month cash budget from scratch?
• Do you know how to handle surpluses/deficits in real-world scenarios?
• Can you explain the difference between cash budgeting and cash flow statements?
• Are you familiar with Nepali examples (eSewa, Daraz, banks)?