Solving Short-term Cash-flow Problems (Cambridge (CIE) O Level Business Studies)

Revision Note

Written by: Danielle Maguire

Reviewed by: Steve Vorster

Liquidity is the ability of a business to meet its short-term commitments (e.g. payments to creditors) with its available assets
- A business that cannot pay its bills will usually fail very quickly, even if they are profitable
- Managing liquidity is a key way to manage risk in a business and helps a business prepare for the unexpected
Many businesses experience short-term cash-flow problems
- Start-ups initially have high costs and low sales revenue
- Existing firms may unexpectedly receive a large order that requires them to buy and pay for a large amount of raw materials
There are several ways in which a short-term cash-flow problem can be resolved

A business often uses more than one method to ensure cash-flow remains positive, e.g. combining an overdraft and reducing the time period available for their customers to pay them

The Methods used to Overcome Short-term Cash-flow Problems

Method	Explanation
Seek to increase the trade credit period	The business may approach some of its most trusted suppliers and ask them for more generous repayment terms E.g. They may request their suppliers to extend the repayment period from 30 days to 90 days
Shorten debtor repayment periods	If the business offers customers the ability to 'buy now, pay later', this delays the cash inflow. Removing the option to pay later will improve cash-flow However, the business may lose some customers to competitors who are able to keep offering credit terms
Apply for a bank loan	Businesses can often arrange short-term bank loans in a very short time frame, often a couple of days Interest will have to be paid
Delay plans to purchase new equipment	Postponing the purchase of new equipment, such as vehicles, may significantly reduce cash outflows
Only sell in cash, not credit	Businesses can choose to only accept cash as payment, meaning it receives money immediately Customers may buy from competitors that sell on credit instead
Overdraft facility	Temporary cash-flow problems can be solved by arranging to spend more than the businesses current account balance Interest rates may be relatively high, increasing business costs

Last updated: 4 October 2024

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