Question

Tommy Rowan is a very confused HR employee at Waddinglake Ltd. He had always associated company success with profit and yet, on the breakfast news that morning, the business correspondent had made the following announcement ‘Walls plc have just gone out of business despite making profits of £8m … further evidence that, when running a business, cash is king’.

Explain, with reference to the scenario above, how a company can go out of a business despite making a healthy profit. Name three user groups with a particular interest in the liquidity side of a business and briefly detail their individual needs. Explain why companies see the cash budget as one of the key financial statements in planning for the future.

Answer 1

Company can go out of business in following case

Overestimate stock-if stock is not valued it may result in increase in profit even if there is no cash flow

Incorrect invoice-correct invoice is back bone of your business other wise pressure in cash flow

Offering credit-a company puts itself and its stakeholder in pressure by offering unnecessary credit

Cash budget is key financial statements for future for following reasons

Financing needs and costs - by predicting cash requirements company evaluates future business opportunities in part based on opportunitys probable financing needs

Corrective actions for cash flow issues-cash budget is way to determine if company has cash necessary to meet upcoming obligations and to trigger corrective actions if company experience cash budget problems

Analyzing companies performance and its potential to survive in the market

Three users who are interested in liquidity side of business are

Investors

Suppliers and other trade creditors

Employees

So the above may be one of reasons for wall plc to go out of business even if there is profit of 8 million