Float Management
Float management, in finance, refers to the practice of managing the timing of cash flows in and out of a business to optimize the benefits of the float. Float is the money within the banking system during the period between the time a check is deposited and when it clears to the depositor’s account.
For a company, managing the float means strategically timing deposits and disbursements to ensure optimal use of funds. It can involve tactics such as:
- Disbursement Float Management: The objective here is to maximize the disbursement float, i.e., delay payments as long as possible without defaulting or damaging relationships with vendors. This may involve scheduling payments to coincide with the invoice due date or using a method of payment that takes longer to clear.
- Collection Float Management: This involves minimizing the time it takes to collect payments. Techniques might include offering discounts for early payment, requiring cash on delivery, or using lockbox services (a service offered by banks to companies in which the company’s customers send their payment to the bank’s PO box, and the bank deposits these payments directly into the company’s bank account).
The ultimate goal of float management is to keep the company’s cash available for as long as possible, allowing more time to earn interest on those funds or use them in beneficial ways before they need to be paid out. It’s important to note that while float management can be a useful part of a company’s overall cash management strategy, it should be done ethically and responsibly, without damaging relationships with vendors or customers.
Example of Float Management
Let’s consider an example of a company that effectively manages its float:
Disbursement Float Management: Suppose a company has a supplier whose invoice terms are net 30 days, which means the invoice is due 30 days after it’s issued. Instead of paying the invoice as soon as it’s received, the company schedules the payment so that it’s sent just a few days before the due date. This allows the company to keep the cash in its own bank account, earning interest, for as long as possible.
Collection Float Management: On the customer side, let’s say the company sells products to a retailer and usually waits 30 days to receive payment after delivering the goods. To decrease this collection float, the company might offer a 2% discount if the retailer pays within 10 days (this is often expressed as “2/10, net 30” in invoice terms).
In this way, the company is managing both sides of its float. It delays disbursements to keep cash in its account longer, and it encourages faster payment from customers to get cash into its account more quickly.
The extra days of float on either side can make a significant difference in the company’s cash flow and interest earnings, especially when dealing with large sums of money and over extended periods of time. It’s crucial, however, to conduct these practices in a fair and ethical way that maintains good relationships with both suppliers and customers.
