Cash flow accounting, accrual accounting, which ones better

It is argued occasionally, cash flow accounting or accrual accounting which one that can be provided better information for users. Leading to the primary basis on which the financial results of companies are reported.
Firstly, the report would talk about review of the extant literatures between cash flow and accrual accounting’s role and intention of corporate reports. Secondly, evaluating which accounting basis satisfies the informational needs of users and implications of adoption for preparers. Finally, the report would also make some recommendations for a future improved disclosure rule.
Methods of accounting in financial statement
First of all, what is the primary objective of financial statement? ‘Financial statement is to provide information about financial position, performance and changes in financial position of an enterprise that is useful to a wide range of users in making economic decisions.’*1 That is stated by International Accounting Standards Board (IASB). For providing information of financial statement, there are two accounting methods for companies to report their financial statement. Cash accounting and accrual accounting both are the main method to prepare the financial statement.

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Cash basis accounting is a very basic form of accounting. ‘Revenue is recorded only when the cash is received, and an expense is recorded only when cash is paid. Preparing an income statement under the cash basis of accounting is prohibited under generally accepted accounting principles.’*2 For example, when a payment is received for the sales of product or services and the revenue is also recorded the date of receipt. On the contrary, when a cash or check is paid for some invoices and the expenses are also recorded the date of paid. That is the cash accounting entries in the financial statement because the main focus point of cash basis is cash. So any transactions are related to cash on that day, cash accounting is also recorded as expenses or revenue on that day.
Accrual basis accounting is combined together with the revenue recognition principle and the matching principle as a combined application. ‘For example, using the accrual basis to determine net income means recognizing revenues when earned (the revenue recognition principle) rather than when the cash is received. Likewise, under the accrual basis, expenses are recognized when incurred (the matching principle) rather than when paid.’*3 Accrual accounting compares to cash basis accounting to be more complex because it includes account receivables (amounts receive from debtors on credit sales) and account payables (amounts pay to customers on credit purchases) that can be matched the revenues are earned and the expenses are incurred to the time period. ‘The effects of transactions and other events are recognized when they occur, rather than when cash or its equivalent is received or paid, and they are reported in the financial statements of the periods to which they relate.’*4 For example, when selling a new computer in March, but the customer does not pay the bill on time until two months later. The company would record the income on credit in March in their accounting books under accrual method that is different from cash accounting.
According to upper side, cash basis and accrual basis are totally different accounting methods for providing information to prepare financial statement. In revenue and expenses, cash and accrual method are recorded when they are received and paid or they are earned and incurred respectively. Cash method reflects revenue and expenses based on cash were received or paid on that day. But accrual method is matched revenue and expenses when they are incurred in time period. At last, cash accounting is no receivables and payables that is also no available method for tracking the recognition of transactions. That means accrual basis giving more meaningful and useful corporate reports.
Advantages of accrual accounting and cash accounting
In accrual accounting, it have a concept when measuring same activities, it provides more steady financial performance and more accurate for prediction because of consistence of performance. And using historical data for preparing financial statement, it can be more reasonable truth and predictability that it is relatively objective. This means that the figures produced in financial statements are objective and not manipulated by a person that can be controlled the company. So that, providing information by accrual basis makes it easier to predict future earnings and financial position.
In cash accounting, the data are also objective and no judgment can be make as each value or amount are recorded by cash transaction with a third party. It can observe easily a company for survival in the short term, but in order to survival in the long term that the business must be make profit. Then, there is no requirement or compliance for accounting standards or disclosure of any accounting policies so that it is more easily to prepare. A more accurate picture of the amount of actual cash is provided by cash method in company’s business. The preparing time and cost can be reduced if comparing to accrual accounting. Due to cash basis is no non-cash accounts hence it does not provide a complete financial operation of the company. Information under this method may not achieve the qualitative features of relevant and reliable.
User’s need analysis
Satisfaction of user’s need is really important because financial statement is used to provide useful information for users to predict or make their own decision. Most of people have an interest to know that the activities of the business. These people are the users of accounting information. Which one would provide better information and satisfy the user’s need? The users also divide by internal and external users. The report will show seven different positions including, employees and management as an internal users and investors, customers, creditors, government and shareholders as an external users to analyze the two accounting methods.
Employees
Purpose of the employees finds a job that is mainly to maintain the stable live. So, they highly concern the stability of the job and ability of the company to pay their salaries, remuneration and bonus on times. Their point of view in cash uniquely focuses on it. If the financial statement is used cash accounting method that can indicate the amount of cash in hand easily so the employees can assess the company’s ability to pay their salaries. Moreover, cash accounting for employees is clearly to understand the trend of cash flow than the complexity of accrual accounting.
Management
Management uses the past information in financial statement to emphasis on making future prediction or use in planning in their business. They need to determine the overall review on the trading business what decision should be made or not. The planning directly affects the operating of company in the future so management would review the financial statement as a reference to investigate the future trend or predict the future profit or loss. And management would be set the policy for the company in financial or operating dimensions. Such as credit period for customers that how long of time period should pay the bills, ninety days or hundred days or so on. All of them are depended on the debtors of financial statement so accrual basis or cash basis accounting are needed to provide in that information.
Investors
Investors are one of the main users of the financial statement. They need to decide whether the value of company invests or not as they want to assess the company’s profitability and the future performance. Every investor only focuses on higher rate of return in lower risk condition. So, they will assess the financial statement of the company to reduce the higher risk opportunity. Based on previously presentation, accrual accounting is to provide steady net profit pattern that also represent the company having steady operating performance. It can help the investors to make the prediction more accurate.
Customers
Although the performance of company is also very important, focus point of the customers is about going concern of the company. They want to know the ability of company to act as a long term partner for trading. So, they would like to see the sufficient inventory level to delivery on times. This can be more easily to control the stock level of their shop or industry to reduce the holding cost. Accrual accounting gives a more accurate picture of profit and loss and the overall financial performance. It should assist the customers to determine the delivery and holding cost for trading business.
Creditors
Trading business between company and creditors is based on a partnership. Creditors review the liquidity and the ability of company to pay the debt. Cash method can show the cash balance straightly but it does not show the account payable balance on the statement. Because cash method is no account payable or account receivable, it just only demonstrates cash transactions. That means it may not provide complete and sufficient financial information to creditors. For instance, company has an available bank balance about two million. This means that the company has ability to pay the debt. However, the company has an account payables balance over ten million. Consequently, it does not effort the debt to pay. Creditors should focus on overall financial performance that why accrual accounting is much better to present the information.
Government
Regarding to completeness of the corporate report, accuracy and the compliance with accounting standard, government is mainly concerned them. Cash accounting does not have any disclosure requirement and more complex reporting but accrual accounting is commonly used in every company (listed or non-listed) in the world compliance with International Accounting Standards (IAS). Therefore, accrual accounting would be more suitable for government that is persuasiveness because of followed by IAS.
Shareholders
Shareholders are the owners of the company. They just know the profit of company and dividends at each period to pay. Because they have the ownership of company, they also consider the going concern problems. Review the overall performance of the company that is the purpose to reach the primary objective of making profit. The dividend payout is depended on the amount of net profit that the company earned in the year. If the current year is no net profit made, the company may not payout any dividend in that year. That moment, the shareholders are disappointed that may lead them to divest the company. In accrual accounting provides more steady net profit pattern and more accurate picture of organization the finances. Inversely, cash accounting is directly affected by cash so that it is more fluctuated. In this situation, accrual accounting can predict the net profit and dividends according to historical information.
The comparison of the above, investors, customers, creditors, government and shareholders are supported accrual accounting. All of them are external users thus all of financial statement reports to external users under accrual accounting. This shows its information can provide better information of users.
Implications of adoption for preparers
What are the factors that influence preparers to adopt an accounting method? ‘The following were the results of the survey on factors that influence the company to adopt a particular accounting method. Normally, five main factors are influence the preparers. It is included sizes of company, nature of business, complexity, cost and taxation.’*5
Nature of business
Nature of business in the companies may affect to choose which accounting method to prepare the financial statement. Pawnshops and restaurants should apply the cash method because it is easy to determine the revenue amount at that time of the sale. On the other hand, manufacturing, trading and transportation services should use the accrual method because it is difficult to receive the whole of the amount immediately. Some customers would be like to prepay the bill first for trading business. That can be easy to match the revenue and expenses in this transaction under accrual basis. Also, it helps to plan the operating cycle especially in the management of inflow and outflow of cash. So, different nature of business may apply different accounting method.
Size of business
The size of business also affects the adoption of accounting method. For instance, a small size of company will trend to apply the cash accounting because the amount of trading cash flow is not large and the whole company only is a few transactions. So a company uses an accrual basis, they need to train the staffs and establish accrual accounting system for the company. Small company is no enough the staffs and budget to apply accrual basis because they may not have ability to cover the cost of the system. The key point is that they no need to spend lots of money only for a few transactions. It may lead to decrease the efficiency and effectiveness of company than using cash basis.
Complexity
Accrual accounting requires more complex reporting and disclosure requirements than cash accounting. There is much depreciation accounting method to calculate the fixed asset or current asset in a company. If the company selects a wrong depreciation method, it may lead to the financial statement having a loss in the year from the gain in original. Disclosure requirements in accrual basis are followed by IAS that may be many attachments to compliance. All the accountants in the world must follow because of providing better information to users. So that, companies may concern their employees who have or have not such specified skills to achieve the accounting standards.
Cost
Accrual accounting is more expensive than cash accounting. As accrual basis is more complex, all the accountants need to have enough training for preparing more accuracy financial statement to provide better information for users. Training for accountants to achieve the international accounting standards that are higher cost, they need specified and professional skills to complete it and also need regular to update their knowledge and skills. The next point is that company would be established up an accounting system for accrual basis method so that company has ability to effort the budget cost.
The company should balance the cost and benefit to choose the two accounting method which will not adopt accrual basis accounting.
Taxation
Under accrual method, accrued expenses can partly allowable to deduct in that financial year even if the expenses is not paid yet but the creditors need to reserve the taxes on expenses in accounting books. This obtains a lot of benefits and advantages though tax payable. In cash method, expenses and income are recorded when it is received or paid so it can deduct depending on the customers to pay cash or check on the received time. There is no prediction for the future year of financial position and performance.
Recommendations for future disclosure
‘According to IAS 1, it requires that an entity shall prepare its financial statement, except cash flow information, using the accrual basis of accounting. When the accrual basis of accounting is used, items are recognized as assets, liabilities, equity, income and expenses when they satisfy the definitions and recognition criteria for those elements in this framework.’*6 So, the future financial statement must include cash flow statement. It can show cash flow balance and detail in the year to provide useful information for confirming decisions such as operating cash flows before working capital changes, cash generated from operations after working capital changes and cash flows from investing activities and financial activities that is largely free from allocation and valuation events. This information can assess and review previous assessment of cash flow. ‘Cash flow accounting appears to satisfy the need to supply owners and others with stewardship orientated information as well as with decision orientated information.’*7 It gives users more information about solvency and liquidity of companies and enables them to compare the other similar firms. When using accrual basis method is difficult to make the assumption. If the users just concern the cash balance in financial statement only, this may be easily occur misunderstanding to influence the future economic decision of the users. So cash flow statement must be included in financial statement for a future as a supporting document between the statement of financial position and the statement of comprehensive income.
Conclusion
Between cash and accrual basis method, accrual method is more applicable to company providing better information for the users. It reflects better the true of financial situation of the company and providing a real picture of the business as a reference for users to make decisions. It also matches the right expenses and revenue when they are earned or incurred at the period under matching principle and revenue recognition principle. That’s mean for tracing each transaction or keeping records which may be more convenience for company. Hence, accrual accounting is matched the primary objective of financial statement that is reliable, understandable, relevant and comparable. ‘In professional accounting practice requires reports to external users to be on an accrual accounting basis. This is because the accrual accounting profit figure is a better predictor for investors of the future cash flows likely to arise from the dividends paid to them by the business.’*8 Therefore, accrual accounting finds more advantages to use rather than cash accounting. As a result, the majority of the world of company’s financial statement uses the accrual accounting basis as well.
 

The Importance of Cash Flow Management

An understanding of effective cash flow statement and its further management is vital tool for the long term survival of an entity`s cash flows. It is also a key factor in planning and in the competent performance of all aspects of operations. The phrase revenue is “sanity”, profit is “vanity” but “cash is king” is an appropriate phenomenon that companies have to consider and embedded in their cash management strategy. It should be noted that “profits” are not an acceptable means of measuring and ensuring good cash flow, since it is not a major piece of cash flow management. Once cash inflows and outflows are received and money paid out are not effectively considered and monitored, corporations may possibly not be able to settle their employees and vendors on time. Hence, lack of good cash flow management could lead to companies’ inability to pay their bills as and when they fall due but yet these companies may have huge “profits” in their annual financial statements.

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1.0 Background of the study
Discounted cash flow analysis is widely used in investment finance, real estate development, and corporate financial management. Indeed, “a manager’s primary goal is to maximise the value of his or her firm’s stock. Value is based on the firm’s future cash flow.” (F.Houston 2007 ,p.10). How does bank estimate that cash flow and how that cash flow will be used in future investment? The answers to both questions lie in a study of financial statement and risk related to transactions concerned with. Analysts describe the activities of a business in either operating or financial terms. Usually, to evaluate its operating profit, a business firm buys raw materials and combine them with actor as capital and labour to produce goods and services. Later on, the company will sell these goods or services to others at a higher price enough to yield return above the cost of the raw material, capital and labour used. In financial terms, the business obtains funds through creditors and owners, and spends them for raw material, labour and fixed assets. To see if a firm’s management has achieved its objectives, we must analyse the company’s return and risk measures. Measuring returns consist of calculating profitability and risk measurement for the bank.
1.1 Overview of the company
The creation of the UK largest retailer goes back to 1919, when John Edward (Jack) Cohen a retailer’s product line started selling surplus groceries from a stall in the East End of London. The name Tesco originated in 1924 when he bought a shipment of tea from a Mr T. E Stockwell, from whom the initials TES come from and CO from Jack’s surname. In 1929 Mr Cohen opened a flagship Tesco store in Burnt Oak, North London and founded in 1939 Tesco stores limited. Today the company is a public limited and employs 470,000 people in more than 14 countries, and is the UK largest grocery retailer and the third worldwide.
In the UK: Over the next decade following its creation, Tesco opened more than 100 small stores, mainly in the London area. The company expanded rapidly across the United Kingdom. Started with the acquisition of smaller grocery chains including the nineteen stores Burnards chain in 1955, and has now, 2362 stores ranging from superstores to express and petrol stations. Since the 1990s Tesco has developed an aggressive marketing campaign in an attempt to overtake Sainsbury’s and become the UK’s leading retailer since 1995. In 1992, the company launched is slogan “every little helps” followed by the Tesco Value range in 1993 and the launch of his loyalty scheme, clubcard in 1995. Today Tesco is the first retailer in the UK with a group’s sales of £62,537 billion, a rise of 6.8% and £3,412 billion group trading profit (12.3% growth)
Abroad: The Company is now present in more than thirteen countries since 1995 when it first expanded to Tesco Hungary to, the USA in 2007.
Strategy: The Company’s strategy has been revised since 1997, the year Terry Leahy was named chief executive officer. Tesco has developed a growth strategy, the one that was ambitious in its design. In the coming years, the company directed its expansion efforts on its core U.K. business, retailing services, international operations, and non food business.
Store types: Tesco has Extra, Superstore, Metro, Express, Tesco.com.
Store offerings: Food retail, Non food retail, Petrol stations, Home living range.
Tesco personal finance: life insurance, pet insurance, home insurance, travel insurance, motor insurance, saving account, personal loans, secure investment bonds, online mortgage finder
The company aims:
This dissertation was dedicated to the financial area, especially to financial management and risk involved. The proposed title of this dissertation is as follow:
How important is for manager to have a good understanding of cash flow statement in a retailing industry.
1.2 Aims and objectives
The aim of this research was to evaluate the overall performance of retailing sector a case study of Tesco Plc being chosen by taking into consideration its cash flows and risk involved. The researcher aims to understand the issues related to cash flow statement and relate it to risk involved and how to improve the management cash flow. Furthermore setting some aims and objectives are of a high importance as they outline some targets, tasks, guide and thus facilitate the research process.
Objectives
Identification of the key factors included in a cash flow statement
Establishment of the straight relationship between the cash inflow and cash outflow
Identification of the element that affect (risk) the successful cash flow
The areas in need of cash flow
What are the advantages of good knowledge of cash flow analysis
Recommendation of new strategies and techniques to improve organization’s overall cash flow performance
Rationale of the Study
The essence of commissioning this research was to establish the need for the company managers to have a good and a deeper understanding of the cash flow statement. After having considered the rate at which corporations are faced with liquidations as a result of going concern problems. The dependencies of profit/ income statement for financing decision making by most businesses over the years have result to these corporations failing to meet the expectations of their long term objectives. With this study the managers would realise the importance of the role the cash flow statement plays in the organisations cash flows management status. The other annual financial statements do not through more light on the financing needs/ requirement and management of the entities. However, the cash flow statement provides more and strong indicators that assist corporations to know the strength and weaknesses of their cash flow generation approaches.
1.4 Significance of the study
Cash flows information of a company is very significant element in providing users of financial statements with a basis to measure the capability of the business to generate cash and cash equivalents and the desires of the business to make use of those cash flows. The financial decisions that users (both shareholders and stakeholders) make depends an appraisal of the strength of the business to generate cash and cash equivalents by having regard to the certainty and their ability to generate those cash (Ramachandran, 2007). The cash flow statement deals with the consideration of information concerning the historical changes in cash and cash equivalents of a company and categories cash flows in to certain groups. This research will no doubt be a significant tool in financing decisions for managers, shareholders and stakeholders at large.
1.5 The Research problem
In recent years so many businesses have had to depend on excessive borrowings from the banks, credit agencies and other financial institutions. Cash flow shortages result to increase in costs, due to interest companies need to pay on borrowed loans, late-payment which may lead to fines, and subsequently the discounts that could be lost for paying bills lately. Lack of cash flow improvements can compound these unexpected costs and could result to difficulty in accessing credit and unfavourable payment terms on some types of purchases. Eventually, corporations that get better in the manner in which their receipts of cash and payment of cash are managed would be more flourishing than their counter-parts.
1.6 Research question
After identifying the aims and objectives of this study, the research attempted to answer the following questions.
What is cash flow concept?
How is it used in an organisation?
What is the impact of financial statements when valuing the cash flow statement?
What are the review conceptual models and theoretical fragments related to cash flow?
What review cash flow statement used by Tesco?
What are the risks faced by the company when evaluating their cash inflow and cash outflow?
The overall impact on cash flow statement inside and outside the industry
1.7 The dissertation outline
The study has been organised in a manner that makes it much easier to read and understand. As a consequence the outline is as follows:
Chapter one: introduction was concerned with general overviews of the study by presenting the aims and objectives, the significance of carrying such research as well as some questions faced by managers when valuing their liquidity.
Chapter two: literature reviews was applied as other’s opinion, what authors has writing and thinking about cash flow management.
Chapter three: methodology was highlighting the different techniques and approach used to carry out our research so that readers and manager can have a
Chapter four: data analysis was presented as the methodology used to conduct this research successful .it furthermore presented the chosen analytical method in accordance with qualitative approach chosen in this study. The data collected are analysed using a qualitative analytical method the methodology used to conduct this study has been discussed. in this chapter and evaluated in accordance with the theoretical framework established from the literature review.
Chapter five: conclusions and recommendations
1.8 summary
This chapter gave an insight of the research project by presenting the company Tesco plc which is subject to inquiry, highlighting the aims and objectives, and discussing the significance of carrying such project as well as the limitations. The subsequent chapter reviews the literature of direct marketing, discussed by prominent authors.
 

Study And Analysis On Cash Flow Statements Finance Essay

The Statement of Cash Flows is one of three very important financial reports that managers and investors look at when analyzing a company’s past or present financial status. The balance sheet and the income statement are the other two reports. All of these reports are very important in running a successful business, but I personally feel that the cash flow statement is the most important. It is like the blood of a company since it would not survive successfully without it. Cash on hand can actually be much more important than income, profits, assets, and liabilities put together, especially in the early stages of our company.

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The cash flow statement tells us how much cash we have on hand after all costs are met. It shows how much cash we started with and how much we pay out. There are two parts to the Cash Flow Statement which are the top and bottom halves. The top half deals with the inflow and outflow of our company’s cash. The bottom half of the statement reports where the funds end up. Just like the balance sheet, the top and bottom halves of a cash flow statement match. Knowing just how important it is to have cash on hand to pay the bills we want to make sure and review our cash flow statement regularly (How to Prepare, 2010).
The top half of the cash flow statement deals with the inflow and outflow of cash. This tracks where our company gets our money and what we spend those funds on. Cash flow is a little more honest than an income statement, because the cash flow statement shows money coming in only when we actually deposit it and money going out only when we physically write out a check (How to Prepare, 2010).
Because the cash flow statement reflects the actual receipt of cash, no matter where it comes from, the entries are a bit different from the revenue shown in a company’s income statement. These funds are usually made up of gross receipts on sales, dividend and interest income, and invested capital. Gross receipts on sales represent the total money that we take in on sales during the period. Gross receipts are based on our gross revenue, of course, but they also take into account when you actually receive payment. Dividend and interest income is the income that we receive from savings accounts and other securities (Dividend Income, 2010). This is one of those amounts that are also reported on the income statement and should be the same as long as we actually receive the money during the period covered by the cash flow statement. Invested capital is part of the owner’s equity in the balance sheet. Although it does not represent revenue from our business operations and would not be part of the income statement, it can be a source of cash for our company.
The cash flow statement keeps track of the costs and expenses that we incur for anything and everything. Some of the expenses appear in the income statement and some don’t because they don’t directly relate to our costs of doing business. These funds consist of cost of goods produced, sales, administration, interest expense, taxes ECT. The cost of goods produced is exactly that, the cost incurred to produce our product or service during the period. Sales expenses are the same expenses that appear in an income statement except that paying off bills or postponing payments may change the amounts (.
On to the bottom half of the cash flow statement which shows where our money is ending up. When our company’s cash reserves raise the money flows into one or more of our asset accounts. The bottom half of the cash flow statement keeps track of what is happening to those accounts. This part of the Statement consists of changes in liquid assets and net change in cash position. With cash flowing in and out of the company, our liquid assets are going to change during the period covered by the cash flow statement. The items listed in this portion of the cash flow statement are the same ones that appear in the balance sheet. Raising the level of our liquid asset accounts has the effect of strengthening our cash position.
In order to properly construct a cash flow analysis we have to look at three very important activities which are operating, investing and financing (Cash Flow, 2010). Operating activities are the cash components that are generated from the sales of the companies’ goods or products effecting the core business operation. These include the purchase of raw materials, production costs, advertising cost and even the delivery to customers (Cash Flow, 2010).
Investing activities are straight forward items that report adjustments in the balances of fixed asset accounts like equipment, buildings, land and vehicles. Investing activities include making and collecting loans and acquiring and disposing of investments and property, plant and equipment (Investing, 2010).
Financing activities are cash adjustments to fixed liabilities and owners’ equity. Cash increases when the company takes up a loan or raised capital, when dividends are paid out, cash decreases accordingly. Financing activities involve liabilities and owners’ equity items. They include obtaining resources from owners and providing them with a return on their investments, and borrowing money from creditors to repay the amounts borrowed (Financing, 2010).
There are a few main objectives of the Statement of Cash flows one of which is to help assess the timing, amounts and the uncertainty of future cash flows (Revenues, 2010). This is one of the quarterly financial reports that publicly traded companies are required to release to the public. According to Investopedia, “because public companies tend to use accrual accounting, the income statements they release each quarter may not necessarily reflect changes in their cash positions.”
The statement of cash flows is very important to businesses because it helps investors see where the company can benefit from better cash management. There are many profitable companies today that still fail at adequately managing their cash flow so it is important to be able to see where the weaknesses are in order to correct them.
In conclusion the statement of cash flows is very important for companies and people that want to invest into a certain company. It shows how well a company manages its cash incomings and outgoings as well as showing how profitable a company might be or become. It is a very clear document to understand so that we don’t fall victim to making a profit while still going broke. It is also helpful for the companies finance department so that they can see where the company stands in order to get more potential investors. It is a great resource to look at in order to recap a company’s financial standing that most people are able to understand.
 

Financial statements: Future cash flows

The literature review will divided into two parts: theoretical review and empirical review. The former will consist of relevant literature from accounting frameworks and main definition from authors. Empirical review will comprise of evidence based from surveys and observations from scholars and researchers.
Theoretical Review
The main idea of financial reporting is to provide high-quality financial reporting information concerning economic entities, primarily financial in nature, useful for economic decision making. Information should be understandable by users who have a reasonable knowledge of business and economic activities and accounting and who are willing to study the information with reasonable diligence (IASB, 2007). This indeed highlights the technical aspect of financial reports. It is expected that financial reports are understood by users with rational accounting know-how. They are not intended for the laymen. Yet, this is a two-way traffic. The information presented to the informed reader should also be in a way that can be easily digested.

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However, are annual reports not too ambiguous? As Zebda (1991, p. 119) explains: “An examination of statements, terms, and rules frequently used by accountants reveals that ambiguity exists in many accounting problems”. And this happens ”in spite of the ambiguity displayed in the accounting environment and the wide recognition thereof”. More recently, members express concerns about the level of complexity in the disclosures in financial statements (CIMA, 2009). Complexity renders information vague and is therefore of little use even to the informed reader. PricewaterhouseCoopers (2006) says that many of its clients are concerned that International Financial Reporting Standards (IFRS) have overcomplicated accounting and made it difficult for shareholders and analysts to interpret company performance.
Objectives of Financial Statements
In the past, the main purpose of financial statements was to appraise stewardship- accountability of management for the resources entrusted to it. Financial statements should allow a user to make predictions of future cash flows, make comparisons with other companies and evaluate management’s performance (IASC, 1989). However, today emphasis is laid upon decision-usefulness. As the IASB/FASB (2005) proposed “stewardship plays a minor role in the objectives of financial reporting, and is subservient to the broader objective of decision-usefulness. Some might even argue that its inclusion is no longer necessary, that is, its inclusion in the existing framework is largely for historical reasons”.
However, David Myddelton (2004) argued: “All the standard setters seem to agree on “decision-usefulness to investors” as the essential basis of financial reporting. But I still prefer the traditional “stewardship” approach, as most accountants do. The fact is that accounts are not prospectuses, and fundamental analysis of accounts is not useful to investors in predicting future profits”. This stance is also in line with the Statement of Principles (1999): “The objective of financial statements is to provide information about the reporting entity’s financial performance and financial position that is useful to a wide range of users for assessing the stewardship of the entity’s management and for making economic decisions”.
This indeed highlights that users of financial statements have different expectations. As put forward by Rudkin (2007), “users are not a homogeneous group and the same information cannot equally satisfy them all as they have different financial skills, interests and purposes”. IASB (2007) has therefore decided that “the objective of financial statements is to provide information about the financial position, performance and changes in financial position of an enterprise that is useful to a wide range of users in making economic decisions”.
What are Qualitative Characteristics?
In order to fulfil objectivity and usefulness criteria, corporate reports should be relevant, understandable, reliable, complete, objective, timely and comparable (Corporate report, 1975). These characteristics are also in line with the Trueblood report(1973).
According to IASB (2007), qualitative characteristics are the attributes that make the information in financial statements useful to investors, creditors, and others. The Framework identifies four principal qualitative characteristics namely understandability, relevance, reliability and comparability.
The IASB gives more importance to relevance and reliability. This is in contrast with the FASB which puts understandability as the first qualitative characteristic for understanding financial information. It stresses on the fact that information should first be understandable to be useful. “Understandability of information is governed by a combination of user characteristics and characteristics inherent in the information, which is why understandability and other user-specific characteristics occupy a position in the hierarchy of qualities as a link between the characteristics of users (decision makers) and decision-specific qualities of information”- (FASB, 2008). This has been illustrated in Figure 1 below:
Source: FASB Statement of financial accounting concepts no 2. Qualitative Characteristics of Accounting Information. 2008.
Understandability
Information cannot be useful to decision makers who cannot understand it, even though it may otherwise be relevant to a decision and be reliable. However, understandability of information is related to the characteristics of the decision maker as well as the characteristics of the information itself and, therefore, understandability cannot be evaluated in overall terms but must be judged in relation to a specific class of decision makers (FASB, 2008) (SFAC No. 2).
Understandable financial accounting information presents data that can be understood by the users of the information and is expressed in a form and with terminology adapted to the users’ range of understanding (APB, 1970, par. 89) [1] . According to the Trueblood Report, 1973, p. 60: “A better understandability requires that the form of presentation of reports and classification of data used be unambiguous. Moreover, information can be expressed as simply as permitted by the nature and circumstances of what is being communicated.”
Relevance
The function of qualitative characteristics is to ensure the validity of information. Typically, it should be timely, have predictive value and provide useful feedback on past decisions. Information in financial statements is relevant when it influences the economic decisions of users do that both by (a) helping them evaluate past, present, or future events relating to an entity and by (b) confirming or correcting past evaluations they have made (IASB, 2007).
Reliability
Information should also represent what it claims to represent. “The information presented should be reliable in that users should be able to assess what degree of confidence may be reposed in it” (Corporate Report 1975, par.3.6). It should be verifiable and another person should be able to recreate the reported value using the same information that the reporting entity has used. IASB (2007) stipulates that “information in financial statements is reliable if it is free from material error and bias and can be depended upon by users to represent events and transactions faithfully”.
Comparability
It should also ensure comparability over time and competing interests. In order to make valid inter-company comparisons of performance and trends, investment decision makers must be supplied with relevant and reliable data that have been standardised (Elliott & Elliott, 2006). Users must be able to compare the financial statements of an entity over time so that they can identify trends in its financial position and performance. Users must also be able to compare the financial statements of different entities. Disclosure of accounting policies is important for comparability (IASB, 2007)
Problems with current objectives
The IASB framework (2007) notes that financial statements cannot provide all the information that users may need to make economic decisions. For one thing, financial statements show the financial effects of past events and transactions, whereas the decisions that most users of financial statements have to make relate to the future. Further, financial statements provide only a limited amount of the non-financial information needed by users of financial statements.
Secondly, it is pointed out that the decision usefulness approach lacks poise in the framework. As the Basel Committee on Banking Supervision (2006) voiced out: ” it focuses too heavily- if not exclusively- on the information useful for predicting cash based on existing assets and liabilities while placing insufficient emphasis on information useful in assessing how entity management has fulfilled its stewardship responsibilities
According to Whittington (2008): “There is certainly a wide range of users of ‘general purpose’ financial statements, and they have many needs in common, but some might feel that additionally fulfilling the legitimate needs of present shareholders in their special role as proprietors is a necessary requirement, whereas other users have a less compelling claim”.
Furthermore, FASC (2007) put forward: “The primary use of information in financial reports is for investment decisions (equity and debt); stewardship is mentioned but almost in passing. The definition in the FASB framework reveals the strong bias towards investment decisions and neglect decisions related to stewardship. Almost disregarded is the information about how managers have used and possibly misused other enterprise assets … and examination and reports of the effects of conflicts of interest between their interest and interest if owners.
Users of financial statements
Each standard-setter has classified users of annual reports into diverse groups in order to make the distinction among their different needs and interests. This is depicted in the table below:-
ASSC- UK Corporate Report
FASB-US
IASB Framework
Equity Investor Group
Investors
Present and Potential investors
Loan Creditor Group
Lenders, Suppliers and other Trade creditors
Lenders, Suppliers and other Trade creditors
Employee Group
Employees
Employees
Analyst-Advisor Group


Business contact Group
Customers
Customers
Government
Government and their agencies
Government and their agencies
Public
Public
General Public
Source: Corporate report, FASB, IASB
Present and Potential Individual and institutional investors
The framework stipulates that because investors are providers of risk capital to the entity, financial statements that meet their needs will also meet most of the general financial information needs of other users. For the purpose of this report, individual and institutional investors will simply be denoted as investors or shareholders. They pay attention to information that will be useful in assessing how management has performed their roles efficiently. The Statement of Principles (1999) stressed out on their interests on the risks associated with their provision of capital. “They are concerned with the risk inherent in, and return provided by, their investments and need information in the entity’s financial performance and financial position that helps them to assess its cash generation abilities and its financial adaptability”.
Employees
Employees and their respective groups are concerned with information about the stability and prosperity of their employers. They are also interested in ensuring that the company is able to keep on operating, so, maintaining their jobs and paying them acceptable wages, and that any pension contributions are maintained. (Frank wood. 2004, p.137). They may be more focused on items such as retirement benefit obligations, borrowings and profits generated from operations.
Lenders, Suppliers and Trade Creditors
Lenders, Suppliers and Trade Creditors are mainly interested with information about whether the reporting entity has the ability to repay back sums and interest that are connected to them. The main difference among them is that lenders tend to focus over a longer period than the two other user groups. For instance, they may look at capital structure ratios, such as gearing ratio as compared to suppliers and trade creditors which may be interested with liquidity ratios.
Financial analysts
According to Schipper (1993), the analyst’s job is to provide buy-sell-hold recommendations and research reports to support those recommendations. They research macroeconomic and microeconomic conditions along with the company fundamentals to support those recommendations. An analyst must be aware of current developments in the field in which he or she specialises as well as in preparing financial models to predict future economic conditions for any number of variables (Granville, 2009). All users of accounts, may, but do not necessarily require the skills requires to analyse financial statements. Yet, the core part of the analyst’s job is analysing corporate annual reports. They are employed mainly banks, insurance companies and pension funds to help these companies or their clients make investment decisions.
Trade-off between Qualitative Characteristics.
Reliability and relevance may often have conflicting interests, requiring a trade-off between them. Although financial information must be both relevant and reliable to be useful, information
may possess both characteristics to varying degrees. It may be possible to trade relevance for reliability or vice versa (FASB, 2008) (SFAC No 2, par 42). This trade-off is further highlighted in the statement (par. 90): “Reliability and relevance often impinge on each other. Reliability may suffer when an accounting method is changed to gain relevance, and vice versa. Sometimes it may not be clear whether there has been a loss or gain either of relevance or reliability”.
Interactions between these highest qualitative characteristics show accounting’s “ambiguity-creating” capacities (Reinstein et al, 2007). It may not always be possible to present a piece of relevant, reliable and comparable information in a way that can be understood by all the users with the capabilities. However, information that is relevant and reliable should not be excluded from the financial statements simply because it is too difficult for some users to understand (Stein, 2000). Ernst and young (2005) further proposed that financial reporting governance can only be exercised properly if adequate weight is given in the setting of accounting standards to all of the four attributes that make the information in financial statements useful to users, i.e. understandability, relevance, reliability, and comparability.
Empirical Evidence
In their respective studies, Epstein and Pava (1993) and Chang and Most (1977) found that the annual financial reports were the most important source of information. While taking the responses of 374 individual investors of a large British company, Lee and Tweedie (1975) found that the profit and loss account was regarded as the most important report. Similarly, Lawrence and Kercsmar (1999) reported that investors frequently used income statement figures for the purpose of investment decisions.
Baker and Haslem (1973) found out that the majority of the individual investors rely heavily on stockbroker’s advice in the United States. Financial statements, were found to be a source of information by only a minority (i.e., 8 per cent) of individual investors. They also highlighted that individual investors attach a great deal of importance to the information about the future expectations of the company. Additionally, Bird et al. (2001) reported that accounting information helps in predicting future earnings in Australia and the UK.
Considerable empirical evidence has been documented showing that firm characteristics – such as size, leverage, earnings-to-price ratios, book-to-market ratios, among others – are associated with stock returns (Penman, 1998). These results are echoed by those reported by Thinggaard and Damkier (2008), which showed that the contents of financial statements can explain the variation of stock market returns in Demark. Francis and Shipper (1999) reported a decreasing trend in the value-relevance of financial statement information in the U.S. over the past decades. Yet, this is in contrast with the results of Chen et al. (2001, p. 18) who later found that “accounting information is value-relevant in the Chinese markets”.
In developing countries, Abu-Nassar and Rutherford (1996) and Abdelsalam (1990) undertook a study in Jordan and Saudi Arabia respectively. The first mentioned documented the low degree of users’ satisfaction about many qualitative characteristics of corporate reports in Jordan. Focussing on what is important to Saudi investors, Abdelsalam (1990) highlighted that it is information about the future of the company as well as information about directors.
How to measure and increase understandability?
Understandability is measured using five items that emphasise the transparency and clearness of the information presented in annual reports. First, classified and characterised information refers to how well-organised the information in the annual report is presented. If the annual report is well-organized it is easier to understand where to search for specific information (Jonas & Blanchet, 2000). Furthermore, disclosure information, and in particular the notes to the balance sheet and income statement, may be valuable in terms of explaining and providing more insight into earnings figures (Beretta & Bozzolan, 2004).
The presence of tabular or graphic formats may improve understandability by clarifying relationships and ensuring conciseness (Jonas & Blanchet, 2000). Moreover, if the preparer of the annual report combines words and sentences that are easy to understand, the reader will be more likely to understand the content as well (Courtis, 2005). If technical terminology is unavoidable, for instance industry-related jargon, an explanation in a glossary may increase the understandability of the information. Furthermore, Shohaieb (1980, p.54) put forward: “A better understandability requires that information should at least to some extent, be comparable with similar information and the message(s) being communicated should be comprehensible”.
Factors affecting understandability
Issues that affect understandability directly relate to ambiguity in the financial statements. Norton (1975, p. 608) defined ambiguity as “information marked by vague, incomplete, fragmented, multiple, probable, unstructured, uncertain, inconsistent, contrary, contradictory, or unclear meanings as actual or potential sources of psychological discomfort or threat”. According to Zebda (1991), the definitions of ambiguity, “all emphasize the basic idea of imprecision and inexactness”. It is the imprecision and inexactness that creates the need for judgment in accounting environments. This can be buttressed with the statement of Gibbins and Mason (1988) who observed that “the exercise of professional judgment by those preparing and auditing financial accounting information is at the core of financial reporting”.
Standard overload
Cook and Sutton (1995) stresses on the fact that companies should focus on the information requirements of shareholders so that the annual report satisfies their needs. Preparing summary annual reports rather than engaging into information overload by providing a detailed annual report can satisfy their needs. The term “standards overload” is one that has been used off and on over the years by the FASB’s various constituent groups to describe their concerns about not only the volume of accounting rules and the level of complexity and detail of those rules, but also the resulting profusion of footnote disclosures and the difficulty of finding all the accounting rules on a particular subject. (FASB, 2002) [2] 
Elliott and Elliott (2006) put forward several points to describe standard overload. This may also be viewed as a reflection of annual reports under IAS/IFRS or the US GAAP. For instance:
There are too many standards.
Standards are too detailed.
Standards are general purpose and fail to recognize the differences between large and small entities and interim and final accounts.
There are too many different standard setters with different requirements e.g, FASB, IASB, national standard setters, national stock exchange requirements.
Conceptual understanding of key terms
An important criterion for usefulness is proper definition of important terms in the financial statements. This is done through the framework. It attempts to give a give a succinct definition to the elements of the financial statements namely assets, liabilities, equity, income and expenses. Baker (2010) has evidenced that basic accounting terms have serious loopholes in definition. For instance, he points out that “it is surprising, given that the IASB framework is so important yet also in essence very simple, that it appears to have passed unnoticed that the definitions of income and expenses are in conflict with the basic principles of double-entry accounting. It is not simply that they are not worded as tightly as they might be, but rather that they fail to recognise the distinction between a debit and a credit”.
The author also evidenced that: “The Framework, which is central to financial reporting under IFRS, incorrectly defines two of the five elements in the financial statements: income and expenses. These are defined as changes in assets, rather than as their counterpart, changes in equity. It is unsatisfactory for a conceptual framework to be conceptually flawed in this way. Profit is not a change in assets: that is not the way double-entry accounting works”.
Frequency, volume and complexity of amendments to standards
Furthermore, it could be added that the frequency that standards are being revised makes it thorny for users to keep abreast to it. According to the UN Report (2006) [3] : “it has been a very challenging time for preparers, auditors and users of financial statements, following the publication of new and revised IFRS’s. The following evidences the frequency, volume and complexity of the changes to international standards:
The IASB’s improvements project has resulted in 13 standards being amended, as well as consequential amendments to many others.
Repeated changes of the same standards, including changes reversing IASB’s previous stands and changes for the purpose of international convergence.
Complex changes on accounting standards, such as those on financial instruments, impairment of assets and employee benefits require upgrading of the skills of those professionals who implement them, in order to keep up with the changes”.
Narrative notes to the accounts
Narrative explanations help to increase the understandability of information (Iu & Clowes, 2004). Survey evidence such as Chang et al (1983) and Lee and Tweedie (1975) suggest that unsophisticated users of annual reports tend to rely mostly on financial narratives. However, Jones and Shoemaker (1994) showed that accounting narratives are difficult to read. In a more recent study by ACCA, CFO, UK (2010) [4] highlights that “narrative disclosures are generally improving in quality, but too much volume and regulation are making documents bulkier, making it harder for the reader to see the wood for the trees. We would encourage a reduction in the amount of information and required disclosures”.
Fair value accounting
Laux and Leux (2009) put forward that FAS 157 defines fair value as “the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date” (Laux and Leuz, 2009). It is hard to argue that fair value is not a relevant measure. Financial statements based on fair value measurements useful, more accurately reflect real-world volatility, simplify financial reporting and are more understandable and comparable to other financial statements (Ferguson, 2008). However, other aspects of financial reporting are just as- and perhaps more- important: reliability, understandability and comparability. Opponents claim that fair value is not relevant and potentially misleading for assets that are held for a long period and, in particular, to maturity; that prices could be distorted by market inefficiencies, investor irrationality or liquidity problems; that fair values based on models are not reliable. (Laux and Leuz, 2009)
Measurement issue
IFRS has opened up certain choices that an organisation will have in how to measure some items giving rise to different measurement models. For instance, the cost model or the revaluation model can be used under IAS 16 (Property, plant and equipment). Not only is use of multiple measurement bases conceptually unappealing, “it makes it difficult for financial statement users to separate accounting-induced income or expense from economic income or expense” (Barth, 2006). Measuring financial statement amounts in different ways complicates the interpretation of accounting summary amounts such as net income.
Improvement to annual reports
The AICPA (1994) formed a Special Committee on Financial Reporting to tackle issues about the relevance and usefulness of business reporting. The Committee carried out a study over a three year period and came out with the following recommendations [5] :
Provide more information about plans, opportunities, risks and uncertainties;
Standard-setters should work to improve understanding of costs and benefits of business reporting, recognizing that definitive quantification of costs and benefits is not possible.
Improve disclosure of business segment information.
Improve disclosures about the uncertainty of measurements of certain assets and liabilities.
Improve quarterly reporting by reporting on the fourth quarter separately and including business segment data.
The report has also envisioned that standard-setters should adopt a longer-term focus rather than engaging on day-to-day issues by developing a vision of the future business environment and users’ needs for information in that environment. “Standards should be consistent directionally with that long-term vision” (AICPA, 1994).

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Cash Flow Management and Forecasting

Cash flow management

Cash flow management is the process of monitoring, analyzing and adjusting business’ cash flows[1]. “Cash is king” is the often heard business cliché, yet it is borne out of reality. It is monitoring of actual cash flows against the cash flow projections for the period, analyzing the reasons for variation and then implementing the necessary actions to manage business financials. Cash flow management is based on cash flow projections which is different than profit and loss account and, in times of cash shortage, may be more important (Oxford, 1997).
Importance of preparing a cash flow forecast
A cash flow forecast shows the projects in flows and out flows of cash in a business. It is an important tool in cash flow management as it helps to identify the gaps in cash over the projected period. Let’s look at the importance of cash flow forecast for different stakeholders

Owner / investor. Cash flow forecast shows the maximum shortfall in cash during the projected period and gives idea about maximum capital funding is required.
Banks / lenders. It helps in analysing the credit worthiness of the business and matches it with lenders’ appetite for risk. It also shows whether business will generate sufficient cash over time to meet repayments.
Creditors. If business is not in a strong position, creditors like to see cash flow forecast to analyse whether to give stock on credit and under what terms.

Cash flow forecast

Annexure I shows the cash flow forecast for the year ending 31 Dec 2004. It shows minimum cash balance of £0 in February 2004 and is based on the following assumptions:

Sprint X is a high street sport shop with no sales on debtor accounts. All sales immediately result in cash in flows.
The profits generated are small and hence company pays no tax.

The projected bank balance on 31st Dec 2004 is £26,500. This is because Sprint X has yet to make the stock payments of £12,500 for December 04 as these are due in January 2004 only.
Though the minimum balance is £0 in February 2004, in reality it might be even lower. The intra-month cash position could be even worse because of the following:

The above cash flow forecast of £0 in February 2004 is based on month end. Monthly rent of £2,500 for March is due on 1st March 2004. So the cash balance on 1st March 2004 could be as low as -£2,500.
Payment terms and dates of utility providers and suppliers.
Payment dates of bank charges.

Advantages of using a spreadsheet for cash flow forecasting

Spreadsheet software for personal computers is a powerful tool for cash flow forecasting. Its major advantages are:

Arithmetic errors are virtually nonexistent (Horngren, Sundem & Stratton, 1998)
It is easier to operate and understand than using professional financial packages. Small business owners don’t need to understand financial jargon for building and updating cash flow forecasts.
It reduces the tedium of carrying out repetitive calculations. If actual cash flows in a month are different from the projections, it would change the following month end cash flows. Spreadsheet model makes it much easier to update cash flow forecasts.
Sensitivity analysis. Spreadsheet cash flow model also makes it more convenient in analysing the impact of variation in different sales and cost elements on the cash flows.

Bankruptcy due to cash flow problems

Sprint X could go bankrupt if runs out of cash to make payments to its creditors. Creditors can then take force Sprint X into liquidation.
Sprint X has to order supplies before it can sell them and once it orders and receives deliveries, it is liable to pay whether or not it is successful in selling them. Based on the cash flow projections in Appendix I, John and Mary expanded the business with £2,500 additional capital for rent payment on 1St March 2004.
Suppose sales in both February and March 2004 are £5,000 less than the budgeted amount. The cost of goods is 60% of sales on average (based on ratio of annual cost of goods to annual sales). Though the cash receipts are lower in February and March, the benefit of lower cash outflows would be seen in March and April only due to one month lag in credit payments.

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Appendix II shows the revised cash flow forecast. Sprint X has a negative cash of £5,000 at the end of February 2004. Even after adding an initial capital inflow of £2,500, the company is no cash to meet full supplier payments for February and rent on 1st March 2004. Under such scenario, both suppliers and landlord can take the company to liquidators.
Even though the company may end year with more cash than initial capital inflow, yet its inability to tide through emergencies may force it into liquidation.

Strategies for effectively controlling cash flow problems

Regular entry of receipts and payments will keep the cash flow updated and will give owners sufficient time to take care of shortfalls, if any.
Analysis of trends will help in taking timely decisions of cost cutting to reduce cash outflows or to plan for higher sales.
Owners shouldn’t take out cash from the business based on single month’s net cash flows. The picture may be distorted due to one month delay in higher stock payments. They should look at the year end figures and maximum cash requirements before taking out any earnings.
The company should establish a line of credit with a bank which will not only take care of maximum cash requirements but also leave some headroom for any emergencies.
Owners should keep business account separate from personal accounts to get clear cash position of the business.
Reconcile monthly bank statements for both deposits made and cheques drawn.

Use of financial recording system to manage Sprint X’s business finances

Sprint X should fortnightly look at the sales trends and plan future expenditure accordingly. Regularly updation of cash flow forecast based on the latest trends will help in planning for any shortfall in funding gap.
It should also use financial recording system to keep a tab on inventory to prevent excess inventory build-up. This will prevent unnecessary goods write-off and losses. Trends in fashion change very fast and a good company should keep an eye on what is selling and what is just occupying shelf space and requiring unnecessary working capital.
Appendix I – Sprint X’s cash flow forecast

 
 

Jan-04

Feb-04

Mar-04

Apr-04

May-04

Jun-04

Jul-04

Aug-04

Sep-04

Oct-04

Nov-04

Dec-04

Jan-05

Receipts

 
 
 
 
 
 
 
 
 
 
 
 
 

 

Invoiced sales

15,000

20,500

35,000

35,000

35,000

20,000

20,000

20,000

20,000

20,000

20,000

20,000

0

 
 

15,000

20,500

35,000

35,000

35,000

20,000

20,000

20,000

20,000

20,000

20,000

20,000

0

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Payments

 
 
 
 
 
 
 
 
 
 
 
 
 

 

Stock

(3,000)

(17,500)

(17,500)

(17,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

 

Telephone

 

(1,000)

 
 

(1,000)

 
 

(1,000)

 
 

(1,000)

 
 

 

Electricity

 
 

(1,500)

 
 

(500)

(500)

(500)

(500)

(500)

(500)

(500)

 

 

Rent

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

 

 

Wages

(2,000)

(2,000)

(2,000)

(2,500)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

 

 

Bank loan

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

 

 
 

(10,500)

(26,000)

(26,500)

(25,500)

(21,000)

(20,500)

(20,500)

(21,500)

(20,500)

(20,500)

(21,500)

(20,500)

(12,500)

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Net cash flow

4,500

(5,500)

8,500

9,500

14,000

(500)

(500)

(1,500)

(500)

(500)

(1,500)

(500)

(12,500)

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Opening bank balance

1,000

5,500

0

8,500

18,000

32,000

31,500

31,000

29,500

29,000

28,500

27,000

26,500

Closing bank balance

5,500

0

8,500

18,000

32,000

31,500

31,000

29,500

29,000

28,500

27,000

26,500

14,000

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Appendix II – Sprint X’s cash flow forecast with reduced Feb and Mar sales

 
 

Jan-04

Feb-04

Mar-04

Apr-04

May-04

Jun-04

Jul-04

Aug-04

Sep-04

Oct-04

Nov-04

Dec-04

Jan-05

Receipts

 
 
 
 
 
 
 
 
 
 
 
 
 

 

Invoiced sales

15,000

15,500

30,000

35,000

35,000

20,000

20,000

20,000

20,000

20,000

20,000

20,000

0

 
 

15,000

15,500

30,000

35,000

35,000

20,000

20,000

20,000

20,000

20,000

20,000

20,000

0

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Payments

 
 
 
 
 
 
 
 
 
 
 
 
 

 

Stock

(3,000)

(17,500)

(14,500)

(14,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

(12,500)

 

Telephone

 

(1,000)

 
 

(1,000)

 
 

(1,000)

 
 

(1,000)

 
 

 

Electricity

 
 

(1,500)

 
 

(500)

(500)

(500)

(500)

(500)

(500)

(500)

 

 

Rent

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

(2,500)

 

 

Wages

(2,000)

(2,000)

(2,000)

(2,500)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

(2,000)

 

 

Bank loan

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

(3,000)

 

 
 

(10,500)

(26,000)

(23,500)

(22,500)

(21,000)

(20,500)

(20,500)

(21,500)

(20,500)

(20,500)

(21,500)

(20,500)

(12,500)

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Net cash flow

4,500

(10,500)

6,500

12,500

14,000

(500)

(500)

(1,500)

(500)

(500)

(1,500)

(500)

(12,500)

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

Opening bank balance

1,000

5,500

(5,000)

1,500

14,000

28,000

27,500

27,000

25,500

25,000

24,500

23,000

22,500

Closing bank balance

5,500

(5,000)

1,500

14,000

28,000

27,500

27,000

25,500

25,000

24,500

23,000

22,500

10,000

Bibliography
Horngren, C.T., Sundem, G.L. & Stratton, W.O.; “Introduction to management accounting”, Eleventh Edition, Prentice Hall International, Inc., 1998
Oxford (1997); “Dictionary of Finance and Banking”, Oxford University Press, Second Edition, 1997.

[1] http://sbinfocanada.about.com/cs/management/g/cashflowmgt.htm
 

Factors in Business Cash Budgeting: With Examples

Contents (Jump to)
Task One (p3d) XYZ Traders – Cash Budget
Task Two (p3abc) Alpha Manufacturing – Budgets
Task Three (p4abc) Beales Manufacturing – Variances
Task Four (p2ab) Beales Manufacturing – Standard Cost
Bibliography

XYZ Traders – Cash Budget

Introduction

In this report Part A presents a cash budget for XYZ Traders for the six month period from December 2008 to May 2009. Part B comments on the cash flow forecast and outlines the benefits of improved cash flow for the Company and recommends management consider a cash flow improvement program.

Part A – Cash Flow Budget December 2008 – May 2009

Table 1
Table 1 shows the cash flow budget based on the following criteria:

Cash balance as at 1 December 2008 totals £2,600
Furniture units sold at £100 each
Furniture units purchased for £60 each
Customer collections on the basis of 50% in month of sale and the balance the following month
Purchases paid for in the month following delivery
Fixed expenses are £4,000 per month
Loan repayment of £10,000 due in April 2009
Stock units carried over from October into November 2008 unknown

Part B – Budget Cash Flow Commentary

The cash flow budget/forecast for the next six months:

is cash positive for each of the six months under review
will generate sufficient cash for the £10,000 loan repayment on schedule in April 2009
will allow supplier payment on time one month after receipt of goods
has a lowest cash balance of £1,200 at the end of April following the loan repayment in the same month

Recommendation – Cash Flow Improvement Program

The cash flow budget indicates that XYZ can continue trading for the next six months without recourse to additional funding. However improving cash-flow can have a number of benefits including:

reducing the equity required to finance the business
reducing loans and interest payments required for working capital
releasing funds for expansion and/or new business activities
providing funds for profit distribution to the owners/shareholders

We recommend management plan and implement a coordinated program to improve cash-flow. Specific areas for consideration are:

minimise inventory by introducing a “just-in-time” (JIT) arrangement where suppliers orders are placed at the time of customer purchase for receipt a day or two before delivery to the customer
eliminate inventory (except for show-room stock) by arranging for suppliers to deliver direct to customers under XYZ Traders instructions and identity
negotiate extended payment terms with the suppliers, say, three months credit
encourage customers to pay the full purchase price on order placement
offer sales on credit with a reputable finance company
increase sales volumes with well designed and executed advertising and customer incentive programs
reduce overheads and expenses with a cost-reduction program

Alfa Manufacturing – Budget Report

Introduction

This report recommends Alfa Manufacturing introduce a budgetary control system. Section A outlines the purpose and benefits of budgets and Section B describes two possible budget formats, incremental and zero based budgeting and examines the advantages and disadvantages of each method.

Section A – Budgets, Purposes and Benefits

The primary purpose for introducing a budgeting system is to provide the Company with a powerful tool for planning and monitoring business performance. It improves productive effectiveness and enhances coordination between the various arms of management to achieve the overall Company aims. Budgets represent the primary means of communicating agreed-upon objectives throughout the organization.
A budget is a formal written statement of the Companies plans for a specified time period. The principle element of a budget is to plan and predict future income and expenditure against a time-scale, usually on a monthly basis covering a calendar or accounting year. Actual income and expenditure is recorded as it occurs and monitored on a regular basis against the plan or budget. The differences between planned and actual results are monitored, reported and the variances analysed and explained.
In summary, the benefits of a budget are that:

Management must develop a comprehensive plan for the future.
Key objectives are agreed for monitoring and performance evaluation.
Potential problems are identified well in advance.
Coordination of activities within the business is facilitated.
Management is more aware of the Companies overall operations.
Each level of management participates in the planning, preparation and monitoring of financial activity.

The budget must have the complete support of top management and is an important tool for measuring and evaluating managerial performance. Contemporary budgeting has been defined as a system wherein managers are provided with the flexibility to utilize resources as required, in return for their commitment to achieve certain performance results (Deloitte Touche Tohmatsu, 2008).

Section B – Budgeting Systems

This section contrasts and compares two basic budgeting methodologies currently in use in industry today, Incremental Budgeting and Zero Based Budgeting.

Incremental Budgeting (IB) is the traditional approach to budgeting which relies on historical information and the previous years budget as a basis for the preparing the input and data for the following year’s budget. For example, let’s say last year’s sales budget was for 1000 units at £500, giving sales revenue of £500,000. For next year’s budget the market for the product is anticipated to improve by 10% giving unit sales at 1100 thus giving budget sales revenue of £550,000. Similarly costs would be based on last years budget, modified by projected inflationary factors. Anticipated raw material price increases and labour rates are used in the cost of production and increases in say, rent and utilities would reflect in overheads. Managers will prepare their individual budgets based on a series of pre-determined criteria and assumptions which are normally provided by top management, finance and accounts.

The advantages of IB are that it is:

relatively easy to implement
easy to understand and appreciate
less time-consuming to prepare than ZBB
a “top down” approach with the same basic assumptions for all

The disadvantages of IB are that it:

assumes that the budget methodology and cost structure is correct
encourages expectations of inflationary increases
predicts sales will reflect the market without competitive analysis
encourages departments to spend all of their allocated budget

Zero Based Budgeting (ZBB) is an approach to budgeting that starts from the premise that no costs or activities should be factored into the plans for the coming budget period, just because they figured in the costs or activities for the current or previous periods. Rather, everything that is to be included in the budget must be considered and justified. (Chartered Institute for Public Finance and Accounting, 2006). Another definition is the use of budgets which start from a present base of zero and regard all future expenditure as being on new items rather than a continuation of existing ones. In practice this means that a budget has to be justified in full for each year of operation (Steven A. Finkler, 2003). In implementing this process each manager must critically examine his own activities and operations and build his budget from scratch.

The advantages of ZBB are that it:

questions accepted beliefs
focuses on value for money
links budgets and objectives
involves managers leading to better communication and consensus
can lead to better resource allocation
is an adaptive approach in changing circumstances

The disadvantages of ZBB are that it:

is time-consuming and adds to the effort involved in budgeting
can be difficult to identify suitable performance measures
can be seen as threatening–careful people management is required
is about costs and resources of options ignoring current practice
can be difficult to comprehend and execute by managers with little financial knowledge and skills

Recommendation

Since Alpha Manufacturing has no previous experience of budgetary control it is recommended that an Incremental Budgeting program is introduced initially. The budget can be prepared using historical data with guidelines and assumptions provided to each manager by the Finance Department.
Beales Manufacturing plc: Flexible Budgeting

Introduction

This report examines the budget and actual results for October. It flexes the budget to actual output, provides a variance analysis and identifies possible causes for each negative variance. Managerial accountability for each variance is suggested and possible remedial actions for the unfavourable variances identified. The benefits of using flexible budgets are explained and it is recommended that this technique be introduced as a feature of Beales’ regular budget reviews.

Variance Analysis and Explanations

Table1 shows the results of the budget and actual output for October, flexed to actual output with each variance examined for possible causes, accountabilities and suggested remedial actions.
 
 

Benefits of Flexible Budgeting

Static budgets have the disadvantage of providing a single specific predicted volume of output. In reality, it very unlikely that the actual output exactly matches the budget. Thus any comparison of actual output to budget suffers from the problem that some of the variances, particularly for variable costs such as labour and materials, will be as a direct result of the differences in the volume of output.
Flexible budgets provide an after the facts device to tell what it should have cost for the volume level actually attained (Steven A. Finkler 2003) They are a useful tool for analysing the effects of variations in volume of output against the original budget. Dennis Caplan (2006) suggests that “the motivation for the flexible budget is to compare apples to apples. If the factory actually produced 10,000 units, then management should compare actual factory costs for 10,000 units to what the factory should have spent to make 10,000 units, not to what the factory should have spent to make 9,000 units or 11,000 units or any other production level.”

Recommendation

For Beales Manufacturing to make the best use of the budgeting process it is recommended that flexible budgets are prepared each month. Variance analysis as demonstrated above will assist management to implement contingency plans to correct any unfavorable trends and enhance profitability.
Beales Manufacturing plc: Standard Costing

Introduction

This section defines and describes the principles of Standard Costing. It is an accounting technique which provides a powerful tool for management to analyze business performance and plan improvements. An example of a standard cost is derived from the October budget and the use of variance analysis to identify problem areas and possible remedial actions.

Definition

Standard costing involves the development of a product or service cost using estimates of both the resources consumed and the prices of those resources. The standard cost may then be increased by an estimated profit margin to produce a standard selling price. These estimates of cost and revenue then provide a foundation for further planning and control (Barrie Mitchinson 2000)

Illustration

The best way to illustrate the benefits of standard costing is to use the October budget data to arrive at an example of a Standard Cost. This cost can then be compared with the actual unit cost for October and the variances analysed as shown in Table 3 below.
Standard Unit Cost vs. Actual (October)
 
From this analysis specific product cost information can be derived. For example, although raw material costs per meter were below standard cost, more material than standard was required to complete the production schedule. Why was that? The manager responsible for production will be able to use the information to investigate the unfavourable variance. Possibly scrap rates were excessive so improved quality control could help reduce or eliminate the problem. Raw material costs were also above standard which will alert the purchasing manager to an overrun of purchasing costs which may require action.

Recommendation

We recommend that Beales consider the introduction of Standard Costing to provide management with a powerful tool to improve efficiency, productivity and product profitability.
Bibliography

Deloitte Touche Tohmatsu, 2008, Budgeting & Budget Controls http://www.deloitte.com
Chartered Institute for Public Finance and Accounting, 2006, Zero Based Budgeting Briefing Paper, http://www.cipfa.org.uk
Steven A. Finkler, 2003, p158, Finance & Accounting for Nonfinancial Managers, CCH Tax and Accounting
Steven A. Finkler, 2003, p162, Finance & Accounting for Nonfinancial Managers, CCH Tax and Accounting
Dennis Caplan, 2006, Management Accounting: Concepts and Techniques, OSU College of Business, http://classes.bus.oregonstate.edu
Barrie Mitchinson, 2000, Standard Costing and Fixed and Flexed Budgets, Association of Chartered Certified Accountants, http://www.accaglobal.com

 

Cash Flow Statements: Indirect Method

a) International Accounting Standard 7 (IAS 7) lays down the standards expected by companies when presenting information about changes in cash or cash equivalents. Under IAS 7, a company is required to present a statement of cash flow showing the changes in cash and cash equivalents from the three key areas of operating, investing and financing (Wheetman, 2006)[1].
The definition of cash and cash equivalents includes cash, as well as any other investments that are considered high liquidity and can be easily converted into a known amount of cash. When presenting cash flow statements, there are two main ways that are recognised by IAS 7: direct and indirect, although a preference is shown for the direct method.
The direct method involves reporting the cash flow gross, as it happens, so that all cash out and all cash in are simply taken gross without any adjustments made for other factors.
On the other hand, the indirect method shows the net cash flows once all other factors have been taken into account. It is not necessary for companies to use the direct method and due to the costly process of looking through all receipts and expenses, it is much more common for companies to use the indirect method (Schwartz, 1996)[2] .
b) China World Limited (CWL), as is the case with many large companies, has opted to report its cash flow statements in an indirect way. The cash flow statement in the published accounts year ended 31st December 2007 reflects this choice fully; however, there is no discussion as to why the direct method was not used.
During the preparation of the accounts, CWL has made several assumptions in order to produces the cash flow statements. For example, depreciation is accounted for during the cash flow statement, as it is not a true expense. When the profit figure, which is the starting point for the cash flow statements, is calculated, the depreciation is taken into account based on the depreciation policies being followed by the company. In the case of CWL, the property owned by the company is depreciated over 20 years, fixtures and fittings over a range of 5 to 10 years and motor vehicles over a period of 5 years. As these amounts are merely policy choices and are done on a straight line method, the actual amount allocated to depreciation has no immediate bearing on the actual cash flow statement and is, therefore, added back on to the ultimate net profit figure during the indirect method calculation. A similar approach is taken with amortisation of intangible assets where the initial costs of these assets are spread across the expected life span of the asset. This is not an actual cash movement and is, therefore, added back on to the final profit figure during the cash flow statement (Mills, 1991)[3].

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Additional adjustments are then made to include cash based transactions such as interest receivable in an attempt to show a truly accurate picture of cash flow movement. Changes in inventory levels are assumed to reflect the amount of cash available, directly. This is not necessarily the case and it is merely an assumption that CWL has made for the benefit of the cash flow statement (Mills & Yanamura, 1998)[4].
Other assumptions that have been made are likely to have an impact on the cash flow. For example, when calculating the net profits, there is an allowance made for bad debtors. This figure is purely an estimate based on previous experiences and the perceived risks associated with the various creditors that are related to the company at any time. In using the indirect method, these assumptions will still bear some relevance to the bottom line, meaning that a change of policy or assumption can have a direct impact on the way in which the cash flow statement looks (Barth, 2006)[5].
As CWL has international operations, it has to deal with the currency fluctuations that occur throughout the year. As the consolidated accounts are presented in pounds sterling, cash values in local currency need to be converted at the exchange rate between the country in which the transaction occurs and British sterling. CWL takes the approach of averaging the exchange rate over the period in which the transactions took place. This assumption is necessary as it simply is not possible to take an accurate exchange rate at the exact point in which a transaction is undertaken. However, it does have a potentially misleading impact on the cash flow statement.
Appendix 1 contains a copy of CWL’s accounts as they would appear, had the direct cash flow approach been taken.
c) The cash flow statement is merely one aspect of the financial analysis of the company’s financial status. Although cash flow and the liquidity of the company is vital in the overall health of the company, it is not the only measure of success. Firstly, let us consider the liquidity of the liquidity position of CWL.
One of the most commonly used ratios is that of the liquidity ratio known as the current ratio. This shows the company’s ability to meet its current liabilities with its current assets. For true financial health, a company wishes to see a ratio that is as high as possible, and at an absolute minimum at least 1:1. In the case of CWL the ratio in 2007 was 1.905, which in itself is particularly healthy and is even healthier when it is compared with the previous year’s figure of 1.734. This increase in the current ratio is primarily due to better management of the money owed by creditors to the company.
A further liquidity test is that of the acid test, which is similar in nature to the current ratio but shows a much starker picture as it looks at the ability of the company to meet its current liabilities purely by the use of cash or cash equivalents. In reality, this is a more realistic view of the company’s liquidity position as its main aim is to be able to pay any liabilities that are imminently due, without the need to cash in any other assets, even if they are considered current. In analysing the acid ratio, it is possible to see a different picture of CWL. Although the current ratio shows a particularly healthy liquidity position, it is clear that much of the current assets of CWL are tied up in inventories or in receivables (Chirinko & Schaller, 1995) [6]. CWL should aim to manage receivables and inventories better in order to bring the quick ratio closer to the desirable 1:1 position. Although the figure of 0.508 falls considerably short of this ideal ratio, it is a vast improvement on the 2006 figure of 0.383.
As well as liquidity the profitability of the company should be considered. This is the view of how well the company is using its assets to produce a suitable rate of return. The main profitability ratio is that of gross profit margin. As CWL is a manufacturing based company, it is expected that the figure will be at the lower end of the scale; however, the figure of 35.95% is relatively healthy and shows a good rate of profit. Despite this, attention should be given to the cost of sales relative to revenues as they have dropped substantially since 2006 where the figure was 50.19%. This could be attributed to the acquisition of a new subsidiary. Therefore, it is anticipated that, in time, better use of the cost of sales will be made and the gross profit margin will recover to a figure closer to 50%.
A final ratio of importance is that of the return on equity. As CWL relies heavily on the shareholders’ equity, it is of considerable importance whether or not the shareholders are receiving a good return on their investment. In its broadest terms, the return on equity ratio shows how much return the company is generating in return for every pound that is put into the company. As a general rule, the higher the return on equity ratio, the better the company is doing, although it should be noted that some companies that require little in the way of financial investment such as consulting firms will almost always have a better return on equity ratio than manufacturing firms such as CWL (Costales & Szurovy, 1994)[7].
Once again, in studying the return of equity in relation to CWL, a downward trend between 2006 and 2007 can be seen. This is almost entirely due to the new acquisitions. Therefore, the direct investment in the consolidated company is considerably higher; yet, there has been insufficient time to allow this cash injection to be suitably used to generate increased returns. In a similar way to the gross profit margin, it would be expected that this figure would return to the 2006 figure rapidly and would in the long term be an improvement on the 2006 figures.
It should be noted that when looking at these ratios the consolidated accounts have been used. There was a large acquisition made during the year within the group and this has had an impact on the ratios, during 2007. The overall health of the company in terms of liquidity and profitability is good and the slight apparent wobble in the figures will be reversed in the years to come due to the increasing investments being put into the ongoing expansion of the company.
The calculations and details of the ratios referred to above are contained in Appendix 2.
Appendix 1 Direct Cash Flow
Cash flows from operating activities
Cash receipts from customers 2,336,967
Cash paid to suppliers and employees (1,496,917)
Cash generated from operations (sum) 840,050
Interest paid (8,615)
Income taxes paid (52,188)
Net cash flows from operating activities 779,247
Cash flows from investing activities
Proceeds from the sale of equipment/assets (60,247)
Interest received 3,336
Acquisition of subsidiaries (88,209)
Net cash flows from investing activities (145,120)
Cash flows from financing activities
Issue of ordinary share capital 202,500
Costs of issue (13,750)
Investment from minority interests 48,360
Interest paid (8,615)
Proceeds from bank borrowings 138,172
Net cash flows from financing activities 366,667
Appendix 2 – Ratios Relating to CWL

Ratio

Calculation

Figures

Result

Current ratio 2007

Current assets / current liabilities

2,284,972 / 1,199,264

1.905

Current ratio 2006

Current assets / current liabilities

1,187,951 / 684,896

1.734

Quick Ratio 2007

Current assets (cash equivalents) / Current liabilities

609,391 / 1,199,264

0.508

Quick Ratio 2006

Current assets (cash equivalents) / Current liabilities

262,080 / 684,896

0.383

Gross Profit Margin 2007

(Revenue – Cost of sales) / Revenue

(2,336,967 -1,496,917) / 2,336,967

35.95%

Gross Profit Margin 2006

(Revenue – Cost of sales) / Revenue

(1,064,479 – 530,234) / 1,064,479

50.19%

Return on Equity 2007

Net income / total equity

266,372 / 3,148,576

8.46%

Return on Equity 2006

Net income / total equity

155,506 / 1,133,966

13.71%

Bibliography
Barth, Mary E., Including Estimates of the Future in Today’s Financial Statements, Accounting Horizons, Vol. 20, 2006
Carslaw, Charles A., Mills, John R., Developing Ratios for Effective Cash Flow Statement Analysis, Journal of Accountancy, Vol. 172, 1991
Chirinko, Robert S., Schaller, Huntley, Why Does Liquidity Matter in Investment Equations? Journal of Money, Credit & Banking, Vol. 27, 1995
Costales, S.B., Szurovy, Geza, The Guide to Understanding Financial Statements, McGraw-Hill Professional, 1994
Elliott, Barry, Elliott, Jamie, Financial Accounting, Reporting and Analysis: International Edition, Pearson Education, 2006
Mills, John R., Yamamura, Jeanne H., The Power of Cash Flow Ratios, Journal of Accountancy, Vol. 186, 1998
Schwartz, Donald, The Future of Financial Accounting: Universal Standards, Journal of Accountancy, Vol. 181, 1996
Shim, Jae K., Siegel, Joel G., Financial Management, Barron’s Educational Series, 2000
Weetman, Pauline, Financial Accounting: An Introduction, Pearson Education, 2006

Footnotes
[1] Weetman, Pauline, Financial Accounting: An Introduction, Pearson Education, 2006
[2] Schwartz, Donald, The Future of Financial Accounting: Universal Standards, Journal of Accountancy, Vol. 181, 1996
[3] Carslaw, Charles A., Mills, John R., Developing Ratios for Effective Cash Flow Statement Analysis,
Journal of Accountancy, Vol. 172, 1991
[4] Mills, John R., Yamamura, Jeanne H., The Power of Cash Flow Ratios, Journal of Accountancy, Vol. 186, 1998
[5] Barth, Mary E., Including Estimates of the Future in Today’s Financial Statements, Accounting Horizons, Vol. 20, 2006
[6] Chirinko, Robert S., Schaller, Huntley, Why Does Liquidity Matter in Investment Equations?
Journal of Money, Credit & Banking, Vol. 27, 1995
[7] Costales, S.B., Szurovy, Geza, The Guide to Understanding Financial Statements, McGraw-Hill Professional, 1994
 

Biography and Music of Johnny Cash

The 1929 crash of the Wall Street stock market caused the most devastating economic depression in U.S. History, and rural America was among the hardest hit. A poor Southern Baptist sharecropping family struggling to raise a family in the midst of this depression gave birth to their fourth child. Ray and Carrie Cash were not prepared to name their new baby boy, so they simply named him J.R. Cash. Born into poverty, in a failed economy, and worse agricultural times, J.R. Cash had a tough road ahead of him. The boy, who was barely given a name, would lead a life hell-bent on making a name for himself.

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 John R. Cash was born in 1932 in Kingsland, Arkansas before his family moved to Dyess, Arkansas to take advantage of the federally sponsored New Deal farming program.[1] The Cash family managed to survive by farming cotton and other the crops that they grew on the 20 acre farm where Johnny is said to have worked twelve hour days with his family and siblings. During this time Johnny first learned about music from his mother who would strum a guitar and sing to him and his siblings after a long day at work. Johnny soon learned of the power of this music to serve as an escape from the hardships of life. Johnny’s older brother, Jack, died in a wood cutting accident when Johnny was only twelve years old.[2]This same year Johnny would pick up a guitar for the first time, and write his first song. Johnny’s mother and his family’s religion would prove to be a powerful driving force in Johnny’s music.[3].

 In 1950, Johnny graduated high school and left Arkansas for Pontiac, Michigan where he went to work in an automobile plant.[4] A month later Johnny joined the Air Force, and while stationed in Germany he learned to play the guitar along with the songs that he had learned to sing. Johnny again used music as an escape from hardship, this time from the loneliness that he felt in the Air Force. He formed a small honky-tonk band to play in local bars where booze laden nights of playing often resulted in drunken brawls. This likely led to Johnny writing ‘Folsom Prison Blues’ while he was stationed in Germany in 1953.[5] Johnny once remarked of his loneliness “I spent twenty years in the Air Force, from 1950 to 1954”.[6] After returning home Johnny married his wartime pen pal, Vivian Liberto, and settled in Memphis, Tennessee. Johnny worked selling appliances and pursued his love of music on the side, with Marshall Grant and Luther Perkins. They formed the trio ‘Johnny Cash and the Tennessee Two’ and played gospel on a local radio station. Later, the trio grew into a quartet and recorded their first two singles “Hey Porter” and “Cry, Cry, Cry”, which helped to launch Cash’s career in music. While touring in support of Elvis Presley, Cash and his band mates lacked the glitzy costumes typical of other performers at that time, and decided to wear black shirts and jeans, thus creating the legend of the “Man in Black”. Anthony DeCurtis, writer at Rolling Stone magazine, described Johnny as “Part rural preacher, part Outlaw Robin Hood”. Many saw Cash’s black attire as a refusal to conform and he was quickly associated with the poor and unfortunate. Jill Smolowe, People magazine, quotes Kris Kristofferson as saying of Cash “He stood up for the underdogs, the downtrodden, the prisoners, the poor, and he was their champion”. His career truly exploded following his 1956 release of “Walk the Line” which hit number 1 and sold 2 million copies.[7] With his new found fame, Johnny moved his family to Ventura, California in 1958, and began a nine year long season of drug addiction. Known to have wrecked every car he ever owned, trashing hotel rooms, and spending numerous nights in jail, Johnny’s wild behavior became legendary and helped to fuel his fame. Despite the many legends of Johnny’s jail time, he actually only spent one night in jail on three separate occasions.[8] DeCurtis quotes Kris Kristofferson saying “He’s a walking contradiction, partly truth and partly fiction”. Johnny began touring with June Carter and while still married to other people June wrote the song “Ring of Fire” in 1963, a song about her forbidden love for Johnny. During this time Johnny and June were performing nearly three hundred shows a year, and Johnny’s drug use was at an all-time high to keep up with his touring schedule. In 1965 Johnny was banned from the Grand Ole Opry for smashing all of the footlights with his mic-stand, and fined $82,000 for accidentally starting a fire in a wildlife reserve that required 450 men and four helicopters to extinguish.[9] Smolowe quotes Cash as saying “I was scraping the filthy bottom of the barrel of life”. The wild and raucous touring schedule, and possibly suspicion about his involvement with June, started to strain on Johnny’s marriage and Vivian filed for divorce in 1966. Following the divorce, in 1967, Johnny locked himself in a room to sweat out the drugs and quit cold turkey.[10]

 Johnny married June in 1968, and the following year Johnny was asked to host his own television show, The Johnny Cash Show. Also in 1968, Johnny recorded one of his most popular albums, Johnny Cash at Folsom Prison, and took home two Grammy Awards for the album.[11] The Folsom Prison album was a tremendous success in all arenas, and the album would later reach Gold record status in 1969. It seemed that his career was going well. Then in 1970, June gave birth to their only child, John Carter Cash. Johnny’s marriage and family were doing well, but his music career was beginning to show signs of struggle. After only two years of airing, the Johnny Cash Show was canceled in 1971.[12] Despite the show being canceled, Johnny went on to work in movies, accepting acting roles and writing scores for various television shows. He also published a best-selling autobiography, Man in Black, in 1975. Johnny was accepted as the youngest member of the Country Music Hall of Fame in 1980, but he later re-lapsed into drug use and entered the Betty Ford Clinic in California for drug rehabilitation in 1984.[13] Cash’s career struggled for the ladder half of the 1970’s and continued to wane for much of the 1980’s, resulting in Cash being dropped from his record label in 1986. Johnny occasionally toured with a group of musicians known as the Highwaymen whose members included Willie Nelson, Waylon Jennings, Kris Kristofferson, and of course Johnny Cash. By the 1990’s Johnny Cash had all but faded into obscurity.[14]

 In 1992 Johnny was inducted into the Rock and Roll Hall of fame, making him the only performer ever to be inducted into both the Country Music Hall of Fame and the Rock and Roll Hall of Fame.[15] Later that year Johnny teamed up with hip-hop producer Rick Rubin to strategize a comeback for Johnnys music career. DeCurtis quotes Rubin saying “From the beginning of rock & roll, there’s always been this dark figure who never really fit.” crediting Johnny as the “quintessential outsider” and being the originator of the bad-boy persona of the present day hip-hop music industry.[16] Cash and Rubin worked together recording a four album series with American recordings from 1994 to 2002. Despite being diagnosed with an incurable disease in 1997, Cash continued to record and perform his music, and in 1998 his album Unchained won a Grammy for best country album. Cash celebrated his Grammy in true Johnny Cash fashion by taking out a full page ad in Billboard magazine showing Johnny making a rude gesture to thank country music radio stations, which he felt had turned their backs on him in previous years.[17] The 2002 release of American IV: The Man Comes Around was the culmination of his success working with Rick Rubin. The albums success was largely credited to Johnny’s exploration into the music of the younger generations. The idea paid off in full, and successfully exposed Johnny Cash to a younger audience and gained him numerous accolades. One song in particular from the album would garner a lot of attention for its “soul-raveging” rendition of Trent Reznors song about drug addiction, “Hurt”.[18] DeCurtis quoted Johnny describing his experience with the song “There’s more heart, soul and pain in that song than any I’ve heard in a long time. I love it.” The song was nominated for six nominations at the 2003 MTV Video Music Awards, but won only one. Justin Timberlake described his own Grammy win over Cash in category where they were both nominated as a “travesty”.[19] Unfortunately Johnny was unable to attend the VMA’s due to the condition of his health.

 The year of 2003 would be the final chapter in the tumultuous life of Johnny Cash. After 35 years of marriage, June Carter Cash died in May of that year. Johnny continued to record his music with Rick Rubin to escape the pain of his loss. The final album produced by this collaboration, American V: A Hundred Highways, was completed just one week before Johnny’s death on September 12, 2003.[20] In rural Arkansas, amidst an economic depression, Johnny Cash rose from humble beginnings to realize his dream of making music. The price for his success and fame was perhaps more than he had expected. Johnny rose, and fell, only to rise again to new found fame before his final bow. He was bigger than life, and he never quit doing what he loved. Steve Pond of Rolling Stone Magazine writes “Whatever he wears and wherever he goes, Johnny Cash is always the coolest man in the room”.[21]It seems that in the end, J.R. Cash made a name for himself that will never be forgotten. The legacy of the “Man in Black” can be revived with the mention of just one word, Cash.

 

BIBLIOGRAPHY

DeCurtis, Anthony. “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

Julian, Lewis. “Remembering the real man in black.” The Daily Telegraph, February 3, 2006: 52.

N.A. “He walked the line for ynderdogs, Johnny Cash: melancholic pill-popper and melodic champion of common folk.” The Mercury, September 13, 2003: 25.

Pond, Steve. “Johnny Cash: The Hard Reign of a Country Music King.” Rolling Stone, October 10, 1992: 118.

Smolowe, Jill. “Fade to Black.” People, September 29, 2003: 78-84.

The Biography Channel. 2013. http://www.biography.com/people/johnny-cash-9240610 .

[1] “Johnny Cash,” The Biography Channel website, http://www.biography.com/people/johnny-cash-9240610 (accessed Apr 08, 2013).

[2] N.A., “He walked the line for ynderdogs, Johnny Cash: melancholic pill-popper and melodic champion of common folk.” The Mercury, September 13, 2003: 25.

[3] Jill Smolowe et al., “Fade to Black.” People, September 29, 2003: 78-84.

[4] Anthony DeCurtis, “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

[5] N.A., “He walked the line for ynderdogs, Johnny Cash: melancholic pill-popper and melodic champion of common folk.” The Mercury, September 13, 2003: 25.

[6] Anthony DeCurtis, “Johnny Cash”

[7] Anthony DeCurtis, “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

[8] Lewis Julian, “Remembering the real man in black.” The Daily Telegraph, February 3, 2006: 52.

[9] Ibid.

[10] Jill Smolowe et al., “Fade to Black.” People, September 29, 2003: 78-84.

[11] Jill Smolowe et al., “Fade to Black.” People, September 29, 2003: 78-84.

[12] Ibid.

[13] Lewis Julian, “Remembering the real man in black.” The Daily Telegraph, February 3, 2006: 52.

[14] Anthony DeCurtis, “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

[15] Ibid.

[16] Anthony DeCurtis, “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

[17] N.A., “He walked the line for ynderdogs, Johnny Cash: melancholic pill-popper and melodic champion of common folk.” The Mercury, September 13, 2003: 25.

[18] Anthony DeCurtis, “Johnny Cash”

[19] Ibid.

[20] Anthony DeCurtis, “Johnny Cash:One of the greatest voices of American music, he was a legend who never stopped being a common man.” Rolling Stone, October 16, 2003: 70-73.

[21] StevePoond, “Johnny Cash: The Hard Reign of a Country Music King.” Rolling Stone, October 10, 1992: 118.
 

Cash for Good Grades

Sometimes parents think of kids school work as their jobs. But adults get paid for their work so why shouldn’t students get paid? Studies show paying kids to get good grades raises their grades,attendance and the graduation rate. Students will put in more effort when they are getting rewarded for good work.This is why paying students for getting good grades is a great idea.

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Cash for good grades would be a great way for students to get a head start in working for pay. Kids would be able to appreciate school more and perform good on tasks for rewards.  In an article about cash for good grades it reads,”Cash for grades can jump start students motivation by providing real world rewards for efforts and performance”Lindsay, Samantha. (“How to Start Paying Students for Good Grades Effectively”). This gives kids a real world experience of being rewarded for good performance. It gives them a jump start at the adult life by teaching them that they perform good on task that they will be rewarded. With this being said children will be more successful and have better attendance in school. If it raises grades and creates good attendance,paying children for school is a great idea.
Paying children for school will definitely encourage students to keep their grades up.
If you were getting paid to come to school and do better wouldn’t you put in extra effort? With that being said This article states,”There have been studies that experimented with paying students to attend and do well in school. The rate of students missing 15 or more days dropped 10 percents”
Studies show paying kids will encourage them to stay in school and keep their grades up. The money will encourage them to keep doing good in school and succeed to graduation and possible enroll in college if they want to. the promise of money for grades increases the students’ drive for success and good marks soon follow. When students get paid for their good grades they try better in school. They give it their best and try to get get good grades, because they can do whatever they want with their money. The students like it better if they are rewarded. It makes them feel better and that they are progressing.
Money also excites kid before they get to school. It excites everybody because if you don’t have a job chances are you don’t regularly have money and can’t buy the things you want Cleveland local news interviewed a student that says, “Im excited to get the money. It makes me want to come to school on time.Some kids don’t have money and this will help them” (“Cincinnati High School Paying Students To Come To School”). Kids will want to show up to school and make it appoint to make sure they make A’s and B’s in all of their classes. This help kids who are less fortunate and live in poverty. In some places like Memphis one in three families live in poverty and paying their students small portions for good grades will help them. It’s great because it will give kids some cash and parents who live in low income housing, etc can save their money up.
Money will also motivate students to do better in school. With that being said ,a quote from WREG.com news channel 10 students say, “Sometimes it’s the mindset and money motivates people. We’ve received about 9,000 over the course of 3 years.” (“Memphis Program Paid Students for Good Grades and Their Parents to Get Jobs”). This would also be grade for students planning to head off to college after high school. They could have a head start and have money saved up from high school and be able to pay for a portion of their college with the money they receive.This would also encourage students to maintain a A-B average.Salespeople often get bonuses for high sales numbers, so why not apply this same philosophy to your student in hopes that the potential for income increases effort?
Paying students for good grades can help kids save up money for college,excite students, make students actually want to come to school daily ,and give students a head start in real world getting paid for good,well done work. It incentivizes them to maintain high grades. It’s a great source of motivation.This is why paying students for good grades is effective.
Works Cited
“Cash for Good Grades.” N.p., n.d. Web.Http://www.facebook.com/wreg3.
“Memphis Program Paid Students for Good Grades and Their Parents to Get Jobs.” WREG.com. N.p., 12 May 2015. Web. 09 Feb. 2017. Https://www.facebook.com/923thefan.
“Cincinnati High School Paying Students To Come To School.” CBS Cleveland. N.p., n.d. Web. 09 Feb. 2017.
Lindsay, Samantha. “How to Start Paying Students for Good Grades Effectively.” How to Start Paying Students for Good Grades Effectively. N.p., n.d. Web. 09 Feb. 2017.
 

The Evolution of Electronic Cash

Abstract
Electronic cash is referred to the electronic store of monetary value on a technical device representing a virtual format of real money. This transformation of traditional paper based monetary system is considered to be one of the milestone achievements of rapid technological developments. Certain powerful forces embodied with electronic cash such as enhanced privacy and security, reduced transaction and handling costs has allowed electronic cash to take over paper money over the time. Despite of the benefits associated with electronic cash it will also have adverse impacts on certain economical factors such as taxation and money laundering. Furthermore the low penetration of electronic cash into the economy is identified to be one of the biggest challenges electronic cash will face ahead into the future.

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1. Introduction
The World is moving rapidly with vastly changing technological developments and innovations. We are currently experiencing an era, where everything is getting automated and digitalized. Along with this technological transition, international monetary system is one significant aspect that is getting transferred from its current state of paper based monetary system to electronic monetary/cash system. According to the 1994 report of European Central bank, electronic cash can be defined as an “electronic store of monetary value on a technical device that may be widely used for making payments to undertakings other than the issuer without necessarily involving bank accounts in the transaction, but acting as a prepaid bearer instrument”[1]. Like the serial number on general dollar bills, electronic cash issued by a bank or any other institution will also consist a unique number and will represent a specified value of real money. Hence with the current accelerated phase of changes and innovation, money is becoming “virtual”. In the sense, it is expressed as an “assemblage of ones and zeros which can be displayed on millions of computer screens throughout the world, can be transferred at the speed of light and yet is located nowhere” [2]. This research report will provide an analysis about Electronic cash in the following ways. The section 2 will present an overview of the rise of the electronic cash over the traditional paper money. The section 3 will elaborate the step by step process involved with electronic cash system.
The section 4 will describe different types of electronic cash while section 5 will provide examples of real world implementation of electronic cash. Furthermore the section 6 will emphasis on risks and issues associated with electronic cash while section 7 describes the challenges ahead for electronic cash.
2. The rise of electronic cash
In an economy without a standard medium of exchange, trades were executed based on different methods. Where as in the earliest period of human civilization people exchanged several commodities they possess in order to buy goods they required. This was referred as ‘commodity money’. Later on commodity money changed into ‘metallic money’ where people traded based on certain metals such as gold, silver and copper. Thereafter with the progress in human civilization, the ‘paper money’ was invented marking a milestone in development of the monetary system. Even as at today paper money is extensively used for transactions within the economy. Nevertheless, the financial services been the early adopters of information technology, the concept of electronic cash, which is also known as virtual money was invented and introduced. As per the economic theories if anything to be considered as real money, it need to fulfill three important functions. They are, it should act as a medium of exchange, should have a unit of account and should have the ability to store of value [3]. Therefore it was guaranteed that electronic cash can be used as general medium of exchange as it fulfills all three criterias.
Gradually electronic cash got widely spread throughout the world as it embodied powerful forces that contributed to its success compared to existing forms of money. In comparison with paper money, which uses only physical security features, electronic cash use cryptography to authenticate transactions and to protect the confidentiality and the integrity of data [1]. Whereas both security and privacy of a transaction is determined by electronic cash. It must also be noted that banks currently incur large cost to handle notes and coins. For instance, in USA alone, the clearing of cheques cost financial institutions $60 billion per year [2].The handling cost of cash is that much high. Hence in the virtual world these handling and transaction costs are aimed to reduce. Electronic cash is considered as a superb accounting unit, as it can be converted from one currency to another, or be transformed into bonds or stocks almost instantly. It takes up virtually no room, it can be counted automatically, and it never wears out, rusts or tarnishes [2]. Furthermore electronic cash is superior to paper money for distant transactions [2]. While notes and coins need to be carried in bullet-proof vans manned by armed guards, electronic cash can be moved easily and quickly. Hence these properties have allowed electronic cash to take over paper money and mark a dominating position within the monetary system.
3. The process involved with electronic cash
The basic idea of Electronic cash implementation involves at least three parties. They are, issuer not necessarily financial institutions, consumers as the end users who use the electronic cash and merchant who accept electronic cash in exchange with products or services provided [4].The steps involved with the process are as follows.

Consumer needs to open an account with the bank. The merchant who need to participate in the electronic cash transactions will have to open multiple accounts with various banks in order to support customers who use different banks.
When the consumer decides to purchase goods he or she will transfer the electronic cash from their account to his or her electronic purse. The electronic cash can then be transferred to the merchant. These transactions done through internet are normally encrypted.
Once the merchant received the electronic cash payment, he will then get it verified by the bank. The bank will then authenticate the electronic cash transaction. Upon verification merchant will deliver the goods to the consumer. At the same time bank will debit the agreed amount from the consumers account and deposit the same into the merchant’s account.

4. Types of Electronic cash
Following the above process of electronic cash implementation, electronic cash can be classified in two ways. In one way, electronic cash is classified based on whether it can be tracked or not. Under this category, electronic cash is divided as “identified electronic cash” and “anonymous electronic cash” [5].
4.1 Identified Electronic cash
Identified electronic cash works more similar to a credit card. From the very first time it is issued by a bank to one of its customer, up to its final return to the bank can be easily tracked by the bank [5]. Consequently it allows the bank to track the payment throughout the economy, hence the bank will hold each and every detail of who the original customer is, and how he has spent the money. To make electronic cash identifiable like this, electronic cash contains a unique serial number that is generated by the bank itself. So that if the customer tried to spend the same money more than once, it can be easily caught and prevented. As per the graphical representation shown in Figure 1, the steps involved with identified electronic cash can be listed as follows.

The bank generates a serial number SR100, for electronic cash worth $100.
The customer will purchase goods from a merchant, by spending electronic cash worth $100 and send the corresponding electronic file to the merchant.
The merchant will then go back to the bank handover the electronic cash and get real money in exchange.
At this point the bank receives the electronic cash with the serial number SR100 back. Therefore the bank knows that the customer has spent the electronic cash on a specific date to buy a specific product from a specific merchant.

Figure 1: Steps involved in identified electronic cash [5].
4.2 Anonymous electronic cash
Anonymous electronic cash also known as ‘blinded money’ works like real hard cash. There is no trace of how the money was spent and there will be no trail of the transactions involved in this type of electronic cash. The key difference between identified electronic cash and anonymous electronic cash is that in case of identified electronic cash, bank creates the serial number, but in case of anonymous electronic cash the customer is the one who create the serial number using a blind signature process [5]. This mean that the issuing bank cannot connect the customer with the serial number of the deposited coins and, in this respect, the customer’s transactions remain private [6]. As shown in Figure 2 the steps involved in anonymous electronic cash are as follows,

The customer will generate a random number called PQP1. From that he creates another number called blind number. Suppose the blind number is BABC.
The customer will send the created blind number to the bank.
The bank will send back the electronic cash with the blind number to the customer.
During a transaction the customer will not use the blind number. Instead he will use the original number.
Therefore both the merchant and the bank will only have the original number. They cannot trace the money as they are not aware about the relationship between the blind number and the original number.

Figure 2: Steps involved in anonymous electronic cash [5].
The second method which the electronic cash can be classified is based on the involvement of the bank in transactions. Based on extend of the involvement it can be further classified as online or as offline electronic cash. When it comes to online electronic cash, the bank should actively participate in the transaction between the customer and the merchant. Such as before the purchase transaction of a specific customer get complete the merchant can verify from the bank on real time, whether the electronic cash offered by the customer is acceptable and it has not been spent before or the serial number is valid [5]. Offline electronic cash does not require an involvement of the bank to complete the transaction between the customer and merchant. If the customer offers electronic cash to a merchant, to pay for a purchase the merchant will accept the money and will not validate it online. The merchant might collect all the electronic cash and validate them together at a fixed time of everyday [5]. Hence out of these distinct types of electronic cash, it can be seen that there could be four possibilities of electronic cash. They are identified online, identified offline, anonymous online and anonymous offline electronic cash. Out of these four types, anonymous offline electronic cash creates the most complex type of electronic cash because of the double spending problem [5].
Where as if the same piece of money is spent twice at two different places it cannot be tracked or prevented as the bank is not involved at any level of the transaction. Risk of double spending is consisted in other types of electronic cash as well. But upon detection such situations can be easily tracked and prevented as the bank is a part of the transaction at some point between customer and the merchant.
5. Some of the Electronic cash implementations in real world
Out of the electronic cash implementations DigiCash and Mondex are known as the most famous implementations of electronic cash. These two systems are similar in what they trying to achieve but different in the means of how they achieve it.
5.1 DigiCash
DigiCash was founded by David Chaum in 1994. DigiCash allowed cash to be transmitted as electronic signals. The advantage of this system was that it can be used directly from the computer and did not require any additional hardware. DigiCash system used digital signature for encryption and “blind” signature for authentication to ensure the security of transactions and to protect consumers, merchants and banks from illegal activities [4]. The figure 3 given below indicated the steps involved in the process of DigiCash.

Figure: 3 Visualization of the process DigiCash [4].
DigiCash utilized a digital currency called “cyberbucks”[7]. It offered both anonymity and identified for both of its online and offline services and it allowed transfers from consumers-to-consumer in addition to consumer-tomerchant [4]. The biggest drawback of this system was, since the necessary data and electronic cash saved in the user’s computer, and if the user formatted the computer’s hard drive, then the user would lose his electronic cash as well. Even though DigiCash has the potential to revolutionize the monetary industry, it was failed to gain support from relevant authorities. This lead to the downfall of the system and the company.
5.2 Mondex
The development of the concept for Mondex was initiated in the early 1990s.Its an E cash application based on smart cards where as electronic cash is stored in the chip located in the smart card [4]. The design of Mondex smart card allows users to transfer any amount of money electronically to the card and utilize the card to make purchases up to the value held in the card. Also Mondex accommodate card-to-card transfers as well. Mondex does not need third party to settle and clear the transactions between users. Hence it provided the advantage of speeding up the transaction. Mondex is recognized as the most secured E-cash application available as at today [4]. It has security which is based on digital signature where each message transferred between bank customer and merchant can be authenticated and it also protects consumer privacy by using blind signature. Mondex also declares that it has the ability to handle micropayments as small as one cent. The banks that currently support the Mondex smart card include National Bank of Canada, Scotiabank, Canada Trust, Bank of Montreal, Le Mouvement des caisses Desjardins, and Toronto Dominion Bank [8]. Presently, Mondex can be operated via the telephone network. In conjunction with British Telecom, the Swindon pilot allows users to load value onto their Mondex chip card using the public telephone network [6].
6. Risks and issues associated with electronic cash
Despite of the great benefits associated with electronic cash, there are few problems caused by electronic cash towards the economy. One of the key problems identified is the taxation and money laundering [9]. Since electronic cash allows transactions across globe without any barriers taxation and money laundering has become potential problems. As for example if an Australian software provider use the American server to sell his software to a Chinese buyer ,it become questionable as if which sales tax rate should be applicable, to whom it should be applied to and whom should benefited from taxation. Since some of the electronic cash are untraceable and not leaving enough information for tax authorities to follow, it will make taxation more complicated and the adjustments toward tax regulations useless. On the other hand the untraceability ability of the electronic cash will encourage criminal activities such as money laundering .Electronic cash can also be used to deal with transactions of illegal products such as drugs, weapons and pornography. Even if the investigators wanted to conquer any evidence they will have to check for all the packets around the world and crack all cryptographies which is merely impossible. Electronic cash will potentially increase instabilities in exchange rates [9].The exchange rates in the real world and the cyber space could not be equal due to several reasons. One is, the fee of exchanging electronic currency in cyber space is lower than fee of exchanging currencies in real world as in real world the banks and financial institutions that perform currency exchange operations will have to incur additional costs such as storing bills in various currencies, managing branches and hiring workers. Electronic cash will eliminate most of these costs hence the exchange fee for electronic cash will be very low and this will encourage people for greater participation in the foreign exchange market using electronic cash. The massive participation may cause instability of exchange rates. Secondly, users of electronic cash will broaden their transaction geographically. Hence they will buy and store different varieties of electronic currencies in their hard disk to support their purchases. In the real world consumers will most likely have one currency in their hand, most probably the currency of the country or the state which they belong to. Therefore at the time of currency depreciation the consumers of electronic cash will have an incentive for speculation where as they will exchange the depreciated currency into a strong and less volatile currency in order to perform transactions. A great proportion of speculation will also lead to destabilization of the exchange rate as well.
Furthermore electronic cash will affect the money supply in the real world [9]. Consumers of electronic cash will deposit real cash in a bank or in a financial institution and request electronic cash in exchange of the real money. If by any chance the bank or the provider of the electronic cash provide loans or lend money in the form of electronic cash, then new money will be created. On the other hand the value of electronic cash will exceed the total deposited real money. The creation of extra money could even lead to a financial crisis.
Another issue that the users of the electronic cash will have to face is the risk of asymmetric information [3]. A situation where as one party in the contract will possess more information about the object of the contract than the other party and there is a risk that the well informed party can misuse their position. In the case of electronic cash, between issuer and user, user of the electronic cash can assess the issuer only through the information published by the issuer. Yet, the issuer might face situations and circumstances which are out of the published information. Such as problems in the technology used to produce the electronic cash, not having required level of expertise, legal issues in conducting such businesses and misuse of funds which can be disadvantageous to users which will prevent users from using electronic cash.
7. Challenges ahead for electronic cash
The biggest challenge electronic cash face as at today is that paper money still rule in retail transactions and are extensively used by small and medium sized firms. Therefore despite of the early success electronic cash has still become unable to mark its victory over the paper cash and exhibits a low level of penetration. Several factors could impact on the slow penetration of the electronic cash in to the economy. They are, consumers will like to hold on to paper money because people are more familiar with usual cash transactions as it can be carried anytime anywhere and they do not require additional electronic devices as for electronic cash. Cash can be easily withdrawn from any ATM at any time of the day. On the other hand cash transactions are also untraceable which satisfies the customer demand for privacy. In Europe, paper money may account for 76-86 per cent of retail transactions in volume, compared with 75 per cent in the USA and 90 per cent in Japan [2]. Paper money is widely used in other countries as well typically for transactions with smaller value. As for a survey conducted by Visa in 1997, taking 29 countries into consideration verified that cash transactions represented an annual value of 8.1 trillion Euros of which 22 percent was for transactions with a value of 10 Euros or less [2]. If electronic cash is making major inroads into the payment world then that evolution of volume could be visible as a rise in the share of the GDP. Yet a recent study conducted by Bank of International settlements suggest that share of coins and notes in GDP remained relatively stable in most of the OECD countries and it has only increased in the three largest OECD economies which are USA, Japan and Germany [2].
Another challenge that will delay the adoption of electronic cash in to the system of transactions is the startup cost. The initial cost of investment and the cost of installation will be really high with regard to the electronic cash system which will have to be passed on to the customer as a transaction fee which will cause customer to get away from these new innovations. This factor will stand out as a resistant for new entrants as it will be difficult for them to overcome the cost advantage. At the same time the speed of the technology changes and the uncertainties about these innovations discourage investors to invest in new systems.
Foot dragging by financial intermediaries such as banks is another challenge that electronic cash will face ahead. Where as in USA, consumers, businesses and the government generated nearly 650 billion paper money payments with a total value of $22 trillion. The intermediaries that handled these payments received about $190 billion in revenue, 53 per cent of which (about $100 billion) accrued to banks [2]. If a paperless cash society become a reality banks will lose all these profits and enduring benefits. Therefore the sole strategy of intermediaries is to resist and delay the adoption of electronic cash transaction systems which often have lower profit margins compared to the paper based operations.
8. Recommendations
In order face the challenges ahead and to avoid or to mitigate the impact of the prevailing risks, adequate regulatory, technical and protection measurements should be taken into considerations. Such as effective supervision on issuers of electronic cash and clearly defined and disclosed solid, transparent legal agreements indicating the rights and obligations of respective participant in the scheme of electronic cash should be enforceable under all jurisdictions. Laws and regulations should be drafted to protect users against criminal abuses such as money laundering. On the other hand merchants such as restaurants, supermarkets and hotels should be stimulated to accept electronic cash by giving them additional advantages. Furthermore enhancing the infrastructures to deal with electronic cash such as ATMs and providing adequate publicity and educating the participants about the electronic cash and the privileges to holders will help the electronic cash scheme to overcome the challenge of low penetration of electronic cash.
9. Conclusion
Along with significant development and progresses made, electronic cash has begin to play an important role among the key segments of the economy such as payment systems, retail transactions and international trading. The digital signature and blind digital signature play an important role in implementing the electronic cash. It has enhanced the security and privacy of electronic cash which tempt users to select electronic cash over traditional paper money. Even though the market share of paper money is yet to be more than the electronic cash in most of the countries it is gradually increasing among the countries with large economies. Likewise with the introduction of new electronic cash instruments will provide a broader acceptance for electronic cash for a range of transactions into the future. Hence it is required for such instruments to overcome the strong obstacles which curtail the fast penetration of electronic cash into the economy. At the same time it is mandatory to have appropriate regulatory and institutional systems in place to handle the economic forces which are at play as consequence of electronic cash. With these factors been taken into consideration, electronic cash will have the potential to acquire larger segment of the payment and transaction market into the future and even to totally replace paper money lead the world toward an networked economic environment.
References
[1]”REPORT ON ELECTRONIC CASH”, European Central Bank, Frankfurt, 1998.
[2] M. Andrieu, “The future of e‐money: main trends and driving forces”, Foresight, vol. 3, no. 5, pp. 429-451, 2001. Available:
10.1108/14636680110416779.
[3] S. Bećirović, “CHALLENGES FACING E-MONEY”, University journal of Information Technology and Economics, vol. 1, no. 2335-0628, 2014. Available: http://unite.edu.rs/. [Accessed 27 October 2019].
[4]Giac.org,2019.[Online].Available:https://www.giac.org/paper/gsec/1799/ove rview-e-cash-implementation-security-issues/103204.[Accessed: 30- Oct- 2019].
[5] A. kahate, cryptography and network security, 2nd ed. New Delhi: Tata McGraw- Hill Publishing company limited, 2008.
[6] L. Srivastava and P. Mansell, “Electronic Cash and the Innovation Process: A User Paradigm”, Science Policy Research Unit, University of Sussex, Brighton, 1998.
[7]”DigiCash”, Investopedia,2019.[Online].Available:https://www.investopedia.
com/terms/d/digicash.asp. [Accessed: 30- Oct- 2019].
[8]”Mondex Smart Card”, Tech-faq.com, 2019. [Online]. Available: http://www.tech-faq.com/mondex-smart-card.html. [Accessed: 30- Oct- 2019].
[9]T.Tanaka,”Possible economic consequences of digital
cash”, Firstmonday.org,2019.[Online].Available:https://firstmonday.org/ojs/ind ex.php/fm/article/view/474/830. [Accessed: 30- Oct- 2019].
[10] G. Papadopoulos, “Electronic Money and the Possibility of a Cashless Society”, SSRN Electronic Journal, 2007. Available: 10.2139/ssrn.982781.