Page 279 - DMGT405_FINANCIAL%20MANAGEMENT

Unit 13: Management of Cash

13.1.2 Cash Management—Control Aspects Notes

We have already seen that the finance manager must control the levels of cash balance at various
points in the organization. This task assumes special importance on account of the fact that there
is generally a tendency amongst divisional managers to keep cash balance in excess of their
needs.

Notes The financial managers must devise a system whereby each division of an
organization retains enough cash to meet its day-to-day requirements without having
surplus balances on hand. For this, methods have to be employed to:

1. Speed up the mailing time of payments from customers,
2. Reduce the time of payments received by the firm remain uncollected and speed up
the movement funds to be disbursement banks.

Two very important methods to speed up collection process are:
1. Concentrating banking and
2. Lock-box system
1. Concentration banking: In concentration banking, the company establishes a number of
strategic collection centers in different regions instead of a single collection center at the
head office. This system reduces the period between the time a customer mails in his
remittances and the time when they become spend able funds with the company. Payments
received by the different collection centers are deposited with their respective local banks
which in turn, transfer all surplus funds to the concentration bank of the head office. The
concentration bank with which the company has its major bank account is generally
located at the headquarters. Concentration banking is one important and popular way of
reducing the size of the float.
2. Lock-box system: Another means to accelerate the flow of funds is a lock box system. With
concentration banking, remittances are received by a collection centre and deposited in
the bank after processing. The purpose of lock box system is to eliminate the time between
the receipt of remittances by the company and the deposit in the bank. A lock box
arrangement usually is on regional basis, which a company chooses according to its
billing patterns. Before determining the regions to be used, a feasibility study is made of
the possibility of cheques that would be deposited under alternative plans. In this regard,
operations research techniques have proved useful in the location of lock box sites. For
example, if a company divides the country into five zones on the basis of feasibility
studies, it might pick up New Delhi for the North, Bombay for the West, Calcutta for the
East, Madras for the South and Nagpur for the centre.
Under this arrangement, the company rents the local post-office box and authorize its
bank at each of the locations to pick up remittances in the boxes. Customers are billed with
instructions to mail their remittances to the lock boxes. The bank picks up the mail several
times a day and deposits the cheques in the company’s account. The cheques may be
microfilmed for record purposes and cleared for collection. The company receives a deposit
slip and lists all payments together with any other material in the envelope. This procedure
frees the company from handling and depositing the cheques. Thus, the lag between the
time cheques are received by the company and the time they are actually deposited in the
bank is eliminated. The main drawback of lock box system is the cost of its operation. The
bank provides a number of services in addition to usual clearing the cheques and requires
compensation for them. Since the cost is directly proportional if average remitted is small.

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