Page 137 - DCOM505_WORKING_CAPITAL_MANAGEMENT

Working Capital Management

Notes Another uncertain variable is the timing of payments for new construction. The weather pays a
significant part in the rate of progress of construction. It is possible that the weather may be
good and that the firm’s construction company may progress ahead of schedule; instead of
` 54,000 being due in August. October, and December, this could result in ` 81,000 being due in
August and October and nothing due in December. The results are presented in Table 8.2. Other
variations in the timing of construction payments could also be investigated.
This kind of analysis provides very useful information about the amounts of possible surpluses
and deficits in various future periods. With regard to the construction payments example, the
expected amounts of surpluses and borrowings in the beginning and ending months are
unaffected, but the pattern from September to November is significantly altered. The maximum
amount of the firm’s necessary borrowings is now ` 59,100, not ` 32,100 in the original calculation.
If there is a significant chance that this speedup of construction may occur, the firm should make
far different financing arrangements than were originally anticipated.

Table 8.2: Sensitivity Analysis of Cash Forecast:
New Construction Payment Accelerates (in `)

Simulation Analysis of the Cash Forecast

While sensitivity analysis methodologies give useful information, it is generally the overall
variation from the means of the monthly cash deficits and surpluses that concerns management
for planning purposes. This information on the probability distributions of cash surpluses and
deficits is necessary to plan advantageous strategies. To estimate these probability distributions,
a simulation of the overall uncertainty in the ending cash balances for cash of the period within
the forecast is needed. To get these, the methods of simulation analysis are used. First, probability
distributions for each of the major uncertain variables are developed. For cash forecast, the
variables involved would include sales, collection rates, production costs, and capital expenditures.
Statistical estimation procedures or management estimates could be used; discrete or continuous

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