It is essential for all businesses to manage their working capital to ensure they have sufficient cash to meet their debts. Steps that can be taken to improve a firm’s cash flow liquidity include: • Preparing accurate cash flow forecasts to identify likely future flows of money in and out of a business over a certain period of time. This helps a business to predict and avoid liquidity problems.
• Improving credit control to ensure that debtors pay their bills on time. Credit control means monitoring which customers are given credit and for how long, and ensuring they pay up on time. Effective credit control reduces the risks of bad debts and protects cash flow.
• Increasing prices and profit margins to raise more money. • Selling off slow-moving stocks to convert them into cash. • Raising more finance by selling shares, getting a long-term loan or selling off some fixed assets to raise money.
5. How is gearing assessed? Gearing shows how much long-term debt has been borrowed compared to how much
equity finance has been invested by the owners. It is also known as leverage. Low gearing = Relatively small long-term loans = Low risk
A business with low gearing will have relatively small long-term loans. This means smaller repayments to pay on loans. Such a business will therefore find it easier to pay dividends to shareholders or reinvest profits in the business. The lower the gearing, the lower the risk to the business. Shareholders, therefore, prefer to invest in businesses with low gearing. Similarly, banks prefer to lend to businesses with low gearing as it means that loans are more easily repaid.
High gearing = Relatively large long-term loans = High risk
A company with high gearing will have relatively large long-term loans. This means larger repayments to pay on loans. This expense will reduce the amount of cash (profits) available to pay dividends to shareholders or to reinvest in the business. High gearing may be suitable for a business during times of high
