Corporate Finance

(Working Capital Management - I)

WM 86 - PPM

Corporate Finance 1
 How much cash are
required?
Compute the Net Cash Burn.
Or, taken from Cash Budget.

Corporate Finance 2
 Cash Management

• Net Cash Burn

– How quickly a firm distribute cash for a fix period (usually
in month). If Net Cash Burn is $ 10,000 per month, invest
$80,000 require 8 months.
– Net Cash Burn = Cash Burn - Cash Build
Cash Burn = (Operating exp - Depr exp + Interest + Tax exp)
+ (increase in Inventory - increase in Payable and
Accrued Liability)
+ capital expenditure
Cash Build = Net Sales – Increase in Receivable

Corporate Finance 3
How long will the cash be
required?
Find the Cash Conversion Cycle

Corporate Finance 4
• Cash Conversion Cycle
Period (in days) that must be financed externally.

Cash Conversion Cycle = Inventory to Sale conversion

period
+ Sales to Cash conversion
period
- Purchase to Payment
conversion period

Corporate Finance 5
 Cash Conversion Cycle

Pay Material Finish

Purchase Receivable Cash
Cash WIP Goods
Purchase to Payment
conversion period
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑃𝑎𝑦𝑎𝑏𝑙𝑒+𝐴𝑐𝑐𝑟𝑢𝑒𝑑 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑦
=
𝐶𝑂𝐺𝑆/365
= …… days

Inventory to Sales conversion Sales to Cash conversion

period period
𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝐼𝑛𝑣𝑒𝑛𝑡𝑜𝑟𝑦 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑅𝑒𝑐𝑒𝑖𝑣𝑎𝑏𝑙𝑒
= =
𝐶𝑂𝐺𝑆/365 𝑆𝑎𝑙𝑒𝑠/365
= …… days = …… days

By knowing the Net Cash Burn and the Cash Conversion Cycle, we will know
how much cash is needed and how long it will stand.

Corporate Finance 6
 Every time I take the cash,
how much should I withdraw?
Use Baumol model

Corporate Finance 7
Should I take all the cash needed at once, or some in several
times? See Baumol model.

OPTIMUM CASH WITHDRAW

Cost

Total cost of maintaining cash

Opportunity cost

Transaction cost

Optimum Cash Cash

Corporate Finance 8
Baumol Model:

2bT
C=
i

C = Optimum cash taken from deposit or selling of

marketable securities.
b = Transaction cost (every time cash is taken, including
transportation cost)
T = Cash needed in one period (say, cash needed
$20,000 per month)
i = Opportunity cost (deposit interest, or interest from
marketable security, or loan interest).

Corporate Finance 9
If a firm has debt, does it able
to meet its debt obligation?

Corporate Finance 10
• High Debt to Total Asset ratio and high Current
Liability to Total Debt ratio is more likely
encounter debt repayment problem.

𝐷𝑒𝑏𝑡𝑠
𝐷𝑒𝑏𝑡 𝑡𝑜 𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡 =
𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡

𝐴𝑣.𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑖𝑒𝑠
𝐶𝑢𝑟𝑟𝑒𝑛𝑡 𝐿𝑖𝑎𝑏𝑖𝑙𝑖𝑡𝑦 𝑡𝑜 𝑇𝑜𝑡𝑎𝑙 𝐷𝑒𝑏𝑡 =
𝐴𝑣.𝑇𝑜𝑡𝑎𝑙 𝐷𝑒𝑏𝑡
= …%

Corporate Finance 11
• The cushion between ability to generate
cash to pay interest and its interest
obligation.
𝐸𝐵𝐼𝑇𝐷𝐴
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝐶𝑜𝑣𝑒𝑟𝑎𝑔𝑒 = = … 𝑡𝑖𝑚𝑒𝑠
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡

Corporate Finance 12
• Interest payment often not only payment to
creditor but there is rent, lease, principal, or
require to make sinking fund payment (use to
retire the bond) that pay monthly.
𝐹𝑖𝑥𝑒𝑑 𝐶ℎ𝑎𝑟𝑔𝑒𝑑 𝐶𝑜𝑣𝑒𝑟𝑎𝑔𝑒
𝐸𝐵𝐼𝑇𝐷𝐴+𝐿𝑒𝑎𝑠𝑒 𝑃𝑎𝑦𝑚𝑒𝑛𝑡
= 𝐷𝑒𝑏𝑡 𝑟𝑒𝑝𝑎𝑦𝑚𝑒𝑛𝑡
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡+𝐿𝑒𝑎𝑠𝑒 𝑃𝑎𝑦𝑚𝑒𝑛𝑡+ 1 −𝑡𝑎𝑥 𝑟𝑎𝑡𝑒
= … 𝑡𝑖𝑚𝑒𝑠

Corporate Finance 13
• Cash is not only for paying,
₋ Operation, but also for
₋ Cushion (berjaga-jaga)
Unpredictable events, ability to borrow, and others.
₋ Speculative
₋ Required minimum balance

Corporate Finance 14
Where do the cash come from?

Corporate Finance 15
• The cash may come from:
1. Operating activities
2. Financing activities, or
3. Investing activities.
• The best is from operation activities,
most specifically the Free Cash Flow.

Corporate Finance 16
• Cash flows from operating activities:

Net Income xx

Add: Depreciation xx
decrease in NCA xx
increase in CL xx
Loss on disposal of assets xx
xx
Less: increase in NCA xx
decrease in CL xx
Gain on disposal of assets xx
xx
Net cash flow from operation activities xx

Corporate Finance 17
Free Cash Flow

Cash flows from operating activities xx

Less: Cash used by essential investment

(Necessary to maintain existing
capacity) xx

Cash use to normal dividend

payment xx

Schedule debt repayment xx

xx
Free cash flow xx

Corporate Finance 18
Free Cash Flow

• If positive, the amount indicates cash

available to:
– Retire additional debt,
– Increase dividends, or
– Invest in new lines of business
• If negative, need financing just to
support current operations and
programs.

Corporate Finance 19
Quality of Earning

• How close is net income to be relized in cash.

• QER > 1, indicates High Quality Earning.

Cash generated by operation

QERatio = -----------------------------------------
Net Profit

Corporate Finance 20
 Tugas Kelompok

Pilih satu perusaan dan hitung:

• Net Cash Burn
• Cash Conversion Cycle.
Buat kesimpulan dan rekomendasi.

Corporate Finance 21
Terima Kasih

Corporate Finance 22