The Causes of Cash Flow Shortage

Background of the Study

     Business organizations today are encouraged to join in the bandwagon of globalization procedures. This procedure of advancement however requires particular ways by which the organization should spend some funds to be able to assist their own organization in meeting the challenges of global trading transactions. Of course, to be able to meet the said progressive procedures, the entrepreneurs are expected to at least invest on the said processes. However, not every entrepreneur is able to measure the great probabilities and the possibilities of the said procedures. Some may even have an over expectation in terms of what they have particularly invested in their business for the sake of having an assured success in the future.

     This is when the problem usually begins to rise. The fact is that there are numerous entrepreneurs who are not able to gauge their company’s monetary capability at a reasonable scale of their resources and the capital that they have primarily business organizations into failure during the past decades. This is primarily the reason why there is a certain need in studying what the probable causes are for this particular situation to occur and how far does SGR or sustainable growth rate affects the situation as well as the other way around.

1. Cash and Its Role in business Organizations

     Cash or money is the main reason why business entities exist. Most likely, the idea is supported by the fact that money is the main root why organizations for-profit have been primarily established within the human society. The said business entities are pre-established to actually regulate the money or the wealth that the human society possesses. Most likely, the thought is provoked by the fact that money is needed by people to be able to live in a money-driven society.

     Hence for distribution and balancing of the wealth allocation in the society is primarily hosted by business ventures. To understand the picture of the idea better, the diagram below shall give an overview of the said cycle:

Diagram 1: Monetary Cycle in the Society

Analysis of the Diagram:

     The presentation above particularly pertains to the fact that the business firms remain as link between the society and the households in regulating the monetary funds of the entire human community. It is through the existence of the said firms that the wealth of a certain human community is being distributed among the people in the said area. However, without the ability and skill of the owners of the business in balancing the inflow and outflow of the money that is utilized by the organization, this particular aim of balancing the money becomes jeopardized and is thus unsatisfactory in terms of the result. This is usually where the cash flow shortage enters the situation. To understand the though further, the discussion that follows shall explain.

1. What is Cash Flow Shortage?

     Cash flow shortage is a business state that indicates the idea that there is a certain imbalance within the inflow and outflow of the cash funds of the organization. This is when the outflow [expenses and liabilities] of the organizational operations have a higher rate compared to the inflow [revenues and income] of the money in the company. Constant observation of the way money enters and gets out of the organization is not a process that is enough to keep the said       balance.

     Once the balance is destroyed, there is an indication that the cash that flows inside the company could not support the amount of cash that flows out the said organization. What are the said outflows that primarily affect that the operational engagements of several business organization? These are the expenses that business organizations are actually involved with in their continuing operations as a business entity. What are the said expenses primarily made up of?

(a)Employee Payments

     Each organization is responsible for giving their employees or their staff the rightful payment that they are due. The efforts that they put forward for the sake of the organization’s progress are equivalent to a certain amount of salary that has primarily been promised to them by the organization.

(b)PRODUCTION Cost Expenses

     This may include the cost of the production procedures that are completed by the organization [for manufacturing organizations] or it may include the processing expenses of the company with regards their completion of several other business operations that they need to finish for the sake of servicing to the needs of their clients.

(c)Rent or Amortization expenses

     This refers to the payment that common organizations have to pay their landlords or their realtors to be able to remain in the physical establishments that they are currently staying in.

(d) Liability Interests

     Every business establishment has their own liabilities that may have primarily resulted from earlier loans or other monetary responsibilities against other organizations. This may result to too much higher interest rates that would actually cause higher rates of expenses for the organization.

     These expenses mainly affect the capability of the organization to handle further more responsibilities outside of the expenses that they are already handling. Hence, the rate of growth that they are trying to achieve may not be that easy to attain anymore. To what does this particular situation result to?

C.The Causes behind the Dilemma of Cash Flow Shortage

     Mostly, especially referring to cash or monetary issues, the problem is usually rooted from the administration themselves. The administration with which the owners of particular business organizations are joined with, usually face huge dilemma when it comes to over estimating the profits that could be brought about by the investments made by the company with regards the capital that they have primarily invested for the establishment of the business. Hence, as a result, since they preempt that there would be huge amount of inflow that would likely be turned in within the organization’s fund after a particular operational year, they [the administration personnel] tend to spend more than what they particularly can change through the annual revenues of the organization. As per commented by be Scott Allen in his article entitled “Cash (flow) really is king”, he said that cash and its effects on a particular business organization certainly identifies its role in contributing to the advancement of different business entities. Hence, the owners of the business [the entrepreneurs] who are less able to evaluate their capabilities based on money are usually not able of committing or achieving the success that they ought to attain. Scott gave at least two main reasons why there is a certain existence of monetary flow dilemma among business organizations today. He mentioned the two major reasons as follows:

1. Business owners are often unrealistic in predicting their cash flow. They tend to overestimate income and underestimate expenses.
2. Business owners fail to anticipate a cash shortage and run out of money, forcing them to suspend or cease operations, even though they have active customers.

(Source: Allen, Scott, 2004, Internet)

Certainly, keeping the two major reasons in mind, it could be noted that the main reason of this dilemma on money is particularly resulted from the fact that business owners lack the knowledge on how much pressure on money their company could actually take.

1. Primary Results of Cash Flow Shortage

     According to Scott Allen, “cash” being the primary king in the business industry is noted as the main source of the existence of any business organization. It could be observed that there needs to be a certain consideration given to how a particular business organization tries to regulate the funds that they already have and the amount of revenue that they receive from annual operations. Not being able to do this particular task may result to several destructive outcomes for the business. As continued by Scott Allen he said that “Employees can’t wait on paychecks until your customers pay. Your landlord doesn’t care that you’re talking to investors and will have the money in a couple of months. Suppliers may not be willing to extend your credit any further and you may not be able to purchase the goods you need in order to deliver to your customer and receive payment.” (2007, Internet)

     From the said statement of Allen, it could be noted that the shortage of cash flow within business organizations actually affects the way the organization particularly operates for the sake of its stake holder’s concern. The stake holders particularly referring to the customer, the employees, the administration as well as the supporting organizations of the said business company have a strong contribution to the progress of the business. This is the reason why it is very important on the business organization’s part that the welfare of the said stakeholders are given ample attention by the  administration of the business organizations concerned with the situation discussed herein.

     Aside form this, the inability of the administration to identify the elements that primarily contribute to the cash flow shortage in the organization actually affects that capability of the whole business company to advance further towards higher profit inflow of the monetary funds taken from revenues of the said company. How then could the said elements be further identified? This is where the understanding of SGR or Sustainable Growth Rate could be applied by the entrepreneurs who are facing the said dilemma being discussed within the context of this paper.

1. What is SGR or Sustainable Growth Rate?

     Each business organization is entitled in being able to attain progress as they continue operating as an entity of employment within the society. It could be observed that there are things needed to be considered though when the progressive state of business is aimed to be achieved. Hence, the capability of a certain organization to achieve continuous growth is then measured through the use of the scaling brought into existence by the utilization of the formula that is used to calculate the SGR percentage of a certain business organization.

     The SGR formula or model examines the capability of different business organizations in attaining the primary goals of progress that it aims to achieve. This particular model of evaluation is more likely much integrated on the realistic views on the said business probabilities. Through the said realistic views, the capabilities and the limitations of the organization could then be measured well thus making it easier for the owners of the business to predict the future issues that may arise that in some point may result to either the progress or the failure of the organization.

     The SGR formula primarily is the calculation of the expenses that are expected from the company and the revenues that are scheduled to be achieved by the organization in an annual-based operation. To understand the formula better, it appears this way:

SGR = ROE * Earnings Retention Rate

= (Profit Margin * Asset Efficiency * Capital

Structure) * Retention Rate

= [(Net Income/Sales) * (Sales/Assets) * (Assets/

Beginning of Period Equity)] * (1 – Dividend

Payout Ratio)

     From the given formula, it could be observed that there exist the different elements of business operations that are involved within the procedure of gaining the best interest there is for the organization’s profit to be able to ensure the progress of the said business entity. The evaluation of the business based on the real scenario that the organization is undergoing would actually lead to direct realization of the fact that the company could only take a certain pressure on expenses based from the funds that are available for the organization to make use of. Hence, through this, the administration of the organization would have a better time spent on actually balancing the cash flows in and out of the business. Furthermore, the article entitled “Sustainable Growth:

Is There Room to Grow?” asses the importance of the said process of business growth evaluation:

     This metric assumes that over the evaluation period: (1) the company will grow sales as rapidly as market conditions permit; (2) management is unwilling to sell new equity; and (3) the company maintains it current capital structure and dividend policy. As growth requires commensurate increases in assets for support — without equity issuance, any asset increases must be funded with added liabilities or from retained earnings. Thus if financial policies are unchanged, the rate of shareholder equity growth will limit sales growth.

(Source: A Deloitte Research Viewpoint, 2001, Internet)

     From the cited comment above, the progress of each business organization as mentioned herein could be observed to be continuously depended on the different variables of monetary flows within the organization. Identifying the elemental factors that contribute to this particular progressive procedure then is indeed an effective way of calculating and evaluating the company’s main asset that could be considered by the administration as a primary source of organizational progress.

     The said scale of monetary funds could be noted as the primary source of the integration of the organization’s monetary expense limit with the expected revenue returns that the organizational administration personnel themselves have set for the company to reach. From the calculations made through the use of the SGR formula, the company owners as well as investors could actually gauge the procedures by which the organization would most likely be able to flourish as an organization that is dependent on growth and elemental progress based on the integrated capabilities of the organization and the employees as well.

1. The Impact of SGR in Cash Flow Shortage Situations

Among Fast Growing Business Entities

     It is much certain that the business organizations should know of their capabilities especially in terms of monetary regulations. The cycle of the coming in and the going out of the revenues that the organization receives in annual business operations could actually be redefined and balanced through the application of the SGR calculation model stated earlier. Through the said calculation, it could be noted that the percentage of growth that the company is expected to attain in every year could be gauged as the fund or monetary release limit of the organization itself. As for a fact, organizations could use the result garnered from this particular formulation of fund control to be able to measure the expenses that they spend every now and then for their business operations. From the calculations, the limits of the spending process could be garnered thus making it easier for the business administration to allocate the monetary funds of the organization to the different responsibilities that they primarily need to attend to every now and then.

     Hence, as a scale of growth, SGR calculation models actually assist in assessing the possibilities and the probabilities with which the business could actually attain its peak success. Of course, being faced with the different cash or monetary issues in business industries is considered normal especially for entrepreneurs that are primarily involved in a fast progressing industry.

The consequences of becoming a member of the competitive world of business usually involve the difficulties of handling the different problems on money and operational limitations. Of course, every business entrepreneur aims to make amends with the limitations that they have in terms of operating as a social entity that is conformed to the different difficulties brought about by business competition. It could then be observed that models of evaluation such as the SGR calculations could actually help in the process of making a particular organization grow at their own pace. Knowing the different factors of progress that could still be taken into consideration by the organization is a sure hope-giving thought that even though the competition is tight, a newly established business entity could still grow in fast manner as it has a strong basis upon the basic knowledge that it needs to consider with regards the effective balancing of the monetary funds of the organization.

1. Solving the Business Monetary Issues

     In connection with the implementation of the SGR system, business entrepreneurs are also expected to have a clearer view on the difference of profit and cash flow. Profit primarily pertains to the revenues that a particular business organization makes in a year or so which is actually generated as a part of the original monetary fund of the organization to be able to continue operating in the business industry. On the other hand, cash flow refers to both the coming out and the coming in of monetary assets within the business. Expenses are actually referred to as outflow of cash assets while revenues in terms of profit are considered as inflow of cash assets within the business.

     It is very important to track down the activities of the organization basing from these particular factors of the business as they are considered within the SGR calculation model as primary contributors to either the progress of the failure of the business within the field of industry that it is competitively stationed at. The capability of the organization to stay within the competition is also usually gauged through the said elements of monetary assessment procedures. To be able to help in the process, Scott Allen adds this particular method of projecting the cash flows within an organization:

1. Start with the amount of cash on hand – your current bank account balance(s) plus actual currency and coin.
2. Make a list of anticipated inflows – customer payments, collection on bad debts, interest or investment earnings, etc. List not only the amount, but also when it will be coming in.
3. Make a similar list of anticipated outflows – payroll, monthly overhead, payments on accounts payable or other debt, taxes payable or set aside for future payment, equipment purchases, marketing expenses, etc.

(Allen, 2004, Internet)

     From the noted process of projecting cash flows, it is then obvious that the systematic approach in tracking the monetary engagements of a particular business organization is very important in scaling the SGR competencies of a particular business. It is suggested though this particular procedure that the constant attendance to the capabilities, the limitations and the assets of a particular business organization should continuously be noted as an important part of the annual assessment and evaluation of the monetary as well as operational procedures adapted by the said business entity.

     From this particular point of view, the importance of SGR has been actually established. Its capability of identifying the status of a particular business as with scaling the possibilities by which it could still grow could actually assist the entire business entity in reaching its peak success within the industry that it is primarily involved with. Through the procedures suggested herein, the competitive status of any business organization could certainly be retained in their reputation as growing entities of social progress in the human global community.

     Summary:

     From the presentation of the review of the literatures used in this paper, it could be concluded that there are indeed different elemental factors within the business industries that affect the growth of a particular business organization. There exists both internal and external factors that affect the process of advancement especially of those organizations that have just been recently established. Jumping into the bandwagon of business competition is always a risk especially to new entrepreneurs. Money investing is one of the primary decisions that the said business r=enthusiasts certainly need to decide upon. The constant attention then given to the competitive status of the organization could be gauged in its monetary competence.

     Certainly, the SGR calculation model as presented herein could actually be noted as one of the most effective procedures there is in making a balanced report and schedule of activities in spending the business funds as well as expecting revenues in return of the expenses. Joining business entities certainly is a serious decision that an investor must make. The SGR reports that a company could come up with and thus be able to present to the prospect investors would actually help the investors decide if they are really to invest in the said business or not. True, SGR could determine either the failure or the progress of a particular business entity.

References:

Higgins , Robert C. Analysis for Financial Management 6th Edition. New York: McGraw Hill: 2001, pp.115-140.

Scott Allen. (2004). Understanding and managing cash flow can make or break your business. Cash (flow) Really is King. http://entrepreneurs.about.com/od/beyondstartup/a/cashflow101.htm. (June 19, 2007).

Kathleen Sindell PhD. (2007). Sustainable Growth Model. http://www.kathleensindell.com/sustainble.htm. (June 19, 2007).

Delloitte. (2001). Sustainable Growth: Is There Room to Grow?.  http://www.deloitte.com/dtt/cda/doc/content/DTT_DR_SusGrowth_nov05.pdf. (June 19, 2007).

Stocks 300. (2007). Sustainable Growth Rate. http://news.morningstar.com/classroom2/course.asp?docId=3071&page=1&CN=COM. (June 19, 2007).