Perspective: Avoiding the hidden rocks at low tide
Three policy considerations for cash flow solvency
By:
Dan Warden
Fall 2012
Imagine for a moment that you can’t breathe for want of oxygen. This is what an organization faces when it lacks adequate cash to meet payroll and other obligations. Accrual accounting and budgets have their place, but cash flow is the ultimate reality for any organization, including school districts. Cash is oxygen.
Good cash flow forecasting and management can help school districts avoid the hazards of running out of cash and, at the same time, minimize potential disruptions to programs and borrowing costs. Over the last five years, both state reductions and the growth of deferrals—delayed distributions of state apportionments—have severely impacted cash flows. District cash balances have been reduced and, to a significant extent, replaced with Accounts Receivables of IOUs from the state. Now, in addition to balancing budgets, districts face greater challenges in ensuring that cash is available to make payments when they are due. Even when budgets are balanced, there can still be cash flow problems.
Developing projection policies to stay afloat
Imagine that the budget represents the ocean surface while cash flows represent the ocean floor. For your district “ship,” a reduced budget translates to shallower sailing waters. Add state deferrals, which shorten the distance between you and the rocks on the ocean floor, and the risks of grounding your ship become even greater. Allowances for these risks, known or unknown, must be incorporated into district planning and positioning. Use these steps to develop strong policies for cash flow forecasting and management:
Develop a system for both the projection and monitoring of cash flows.
Enable the system a) to project best, worst and most likely scenarios the district may face in the foreseeable future, and b) to detect in a timely manner departures from projections that require management action.
Enhance the system with an inventory of the cash management tools available and the plans to deploy them if necessary. Include tools you expect to use, as well as tools that could be used contingently if worst-case scenarios materialize. Tools that carry no cost or low cost should be utilized before alternatives, which could either disrupt operations or require significant expenditures.
Creating useful cash flow projections
Since cash needs to be available whenever it is needed, monthly projections of cash balances should be prepared to identify when cash would run out, how much would be needed during the drought, and how many months the extra cash would be needed. Consider performing each of the following projections:
The baseline: Project expected needs based on the current budget and reasonably expected cash flows. This becomes the baseline for planning cash flow needs.
The contingency for worst cash flow: Project cash flows based on the current budget under the worst anticipated cash flow projections for that budget. This is the first level of contingency planning since additional cash may be needed if cash flows as projected in the baseline do not materialize.
The contingency for worst budget: Develop contingency plans for budget reductions if a worst-case budget situation were to develop. A cash flow projection based on these contingencies should also be developed and used to factor in additional contingency cash flow planning.
Forecast uncertainties
Districts are facing considerable uncertainty and may need to change budgets and cash flows as events unfold. However, some changes may impact one and not the other. For example, an increase in deferrals with no additional state budget reductions would mean budget revenue may not change, but expenditure reductions or other adjustments are needed due to more delayed cash inflows. Totally unanticipated events may also occur.
Therefore, cash flow projections should be used in the same manner that seasoned sailors use maps and charts. While they are useful guides, they must be supplemented by ocean-floor depth soundings and position checks followed by appropriate course corrections. The district’s projection and monitoring system should provide for comparison of monthly projections to actual results, and variances should be investigated. Variances may indicate changes in conditions that require alterations to district plans.
Cash management tools
Cash management tools are tactics used to accelerate cash inflows, delay cash outflows, or provide for temporary borrowing to cover the drought periods. Your district is probably already using some of these. Generally, each tool can only be used up to a limited amount and for a limited duration. While some have no cost or low cost to the district, others do carry a cost. Disruption of district services (a spending freeze or expenditure delays) or additional expenses could further reduce district services in already austere budget times. Additionally, some of these tools require advanced planning, making them difficult to employ on short notice. Plan to use the least costly tools first and the more costly ones only when needed.
A lighthouse
The policies the district establishes are the sailors’ tools. Projecting, monitoring and managing cash flows are in one hand, while the other hand holds the plans for addressing shortages. Even so, these tools may prove inadequate if your staff is stretched or reduced beyond comfort levels. Your staff may need assistance in any or all of the following ways:
Provide an external review of cash flow planning and actual cash flow projections. This would be a second pair of eyes that could make recommendations for improving the processes in place or in reviewing projections or both.
Provide assistance in obtaining the information necessary to prepare cash flow projections or in the processes used to project and monitor cash flows.
Train staff in cash flow projections and monitoring.
Prepare cash flow projections externally. District staff should be involved, as outside consultants may not be familiar with factors unique to your district.
Dan Warden is director/consultant with the CPA firm Vicenti, Lloyd & Stutzman. Dan has over 22 years budgetary and accounting experience with a county office of education and as a school district chief financial officer. For the past decade, Dan has acted as an independent advisor and consultant, assisting district financial personnel with facilities and bond oversight as well as budgeting, accounting and reporting responsibilities. He has also served in a number of interim CBO, controller and director of fiscal services roles. You can reach Dan at
DWarden@vlsllp.com
.