Finance Chapter on Float and Payables

Float

• A float arises from the difference in timing between a company's record of payments and a bank's record of payments.
• This difference is largely due to the time it takes for checks to be sent, processed, and cleared.
• There are three categories of floats: mail float, processing float, and clearing float.

Mail Float

• The mail float is the time between when a check is issued and when it's received by the payee.

Processing Float

• The processing float is the time between when a payee receives a check and when they deposit it into their bank account.

Clearing Float

• The clearing float is the time between when a check is deposited and when it clears and becomes available for use.

Stretching Payables

• This is a process where a company delays making payments to suppliers.
• The goal is to keep cash on hand longer, effectively earning interest on that money.

Accelerating Collection of Receivables

• This is when a company speeds up the process of collecting payments from customers.
• This reduces the cash conversion cycle, which is the time it takes to convert raw materials into cash.
• Some methods for accelerating collections can include:
  • Shortening credit terms to encourage faster payment.
  • Offering discounts to customers who pay early.
  • Implementing a lockbox system where a bank manages the payment process.
  • Using a direct send system where customers send payments directly to the company’s bank.
  • Utilizing concentration banking where a company maintains multiple bank accounts across its sales outlets.

Excess Cash Placements

• There are various options for managing excess cash available to companies:
  • Savings or current accounts: offer low interest rates but are liquid.
  • Certificates of time deposits: higher interest rates than savings accounts, but require a commitment period.
  • Treasury bills: a low-risk investment issued by governments, typically with short maturities.
  • Stocks: a higher risk investment, offering the potential for greater returns than bonds.
  • Bonds: debt securities issued by companies or governments to raise capital.
  • Unit Investment Fund (UITF): a pooled trust fund that invests in a variety of assets.
  • Mutual Funds: a diversified investment fund that allows investors to pool money together.
  • Commercial Papers: short-term debt issued by companies with high credit ratings, typically with a higher interest rate than savings accounts.