Internal

This article discusses the points to consider

when evaluating and implementing internal

cash flow controls.

CONTROLS

Timing Is Everything

For most contractors, billings anddeposits are daily activities. Ensur-ing that these functions take placein a timely fashion can significantlyincrease available cash.

BILLINGS

Timely and complete billing shouldalways be your company’s number

one cash flow tool.

To ensure timely payments, ana-lyze each job for key dates and pro-cesses:

• Determine what documents andapprovals are needed to supportthe bill.

• Ensure that all subs and vendorssubmit bills in time to be includedin the current payment cycle.

• Meet the cut-off date for your billsto be included in your owners’payment cycles, so that you don’tlose a month in the process.

• Bill on a timely basis. Customerswon’t pay until billed; and untilthey do pay, your company’s ownfunds are tied up in materials,payroll, and services.

DEPOSITS

Processing deposits can be yournext best cash flow tool.

• Open the mail promptly, look forpayments from customers, list allreceipts, prepare the deposit,and get it to the bank in time tobe posted that same day.

• Know your bank’s deadline forreceiving deposits for same-daycredit; miss it and you might aswell wait until the next day.

RECEIVABLES

Keep track of what your company isowed. Contract receivables are obvi-ous, but don’t overlook other typesof activity.

One employee almost succeeded insecretly building his dream home byintercepting insurance claim checksbefore they made it to the contrac-tor’s bank account.

CASH

Timely recording of cash transac-tions can make a big difference in acompany’s bottom line. Here’s agood example: Shortly after joininga former employer, I learned that

January-February 2003 CFMA BP

BY GORDON B. MARSHALL

Properinternal

controls can

help prevent

errors and

surprises,

increase cash

flow, boost the

bottom line,

and defeat

fraud – while

protecting

the safety of

your firm’s

assets and

reducing

the risk

of loss.

Properinternal

controls can

help prevent

errors and

surprises,

increase cash

flow, boost the

bottom line,

and defeat

fraud – while

protecting

the safety of

your firm’s

assets and

reducing

the risk

of loss.

CFMA BP January-February 2003

their cash accounting wasn’t current. Simply by changingthe timing of when reports were produced, I proved theexistence of ample cash flow for operations. So, insteadof continuing to be a net borrower (as they had been foryears), the company was able to quickly pay down theirline and develop a medium seven-figure, short-term invest-ment portfolio!

PAYABLES

We all understand that paying invoiceson time is good business and thatpaying early usually depletes cashunnecessarily. However, if paymentterms or discounts are involved, “dothe math” to determine if they’ll workto your company’s advantage.

If you don’t see any payment or discount terms, contactkey suppliers and discuss the possibilities (keeping lienrights and defenses in mind).

RECONCILIATIONS

Performing timely bank account reconciliations is becom-ing more and more important. Most banks allow only 30-60days to report statement errors. Miss that window and thestatement is considered to be correct and final.

With fraud on the rise and bank errors increasing, it justmakes good business sense to examine statements carefully.Eventually, the accounts will be reconciled anyway, so beon the safe side and be timely with reconciliations.

Organize Cash Processes

SEGREGATE JOB DUTIES

The person who opens the mail should not be the one whoupdates the A/R records. Similarly, one person should keepA/P records and another should sign checks. Pay attentionto other duties that involve cash records, too, such as in-voice approvals, vendor lists, and account reconciliations.Make sure one person is not handling the entire process.

SEPARATE ACCOUNTS FOR ROUTINE ACTIVITIES

Maintain separate bank accounts for routine activities. Forexample, contractors generally have a weekly field payrollprocess that does not vary. If the field payroll is drawn on itsown checking account, the predictability of the payroll activ-ity becomes an internal control. CFMs can easily monitorthe checkbook and bank ledger balances for the account,looking for variations from the norm that might indicate pro-blems (a.k.a. “management by exception”).

The sameness of payroll activity offers an additional controlbonus: Your bank can be authorized to set a limit on thecheck amount that can be cleared on the field payroll ac-count. If larger checks are presented, ask your bank to callfor instructions. This is not a perfect defense against checkfraud, but it does help control exposure. (We’ll look at othercheck fraud controls later in this article.)

SEPARATE ACCOUNTS FOR MAJOR ACTIVITIES

Establishing separate bank accounts for major activities isanother effective control. For example, one account can beused exclusively for deposits, another for A/P disbursements.Tell your bank that no checks are to be cleared against thedepository account and make all deposits to that account.

Then, write A/P checks only on the disbursement account.

As needed, transfer funds to cover activity inthe disbursement account. This can be doneby telephone transfer or through an automatic

sweep arrangement in which the bank moni-tors the disbursement account balance and

moves funds from the depository accountas needed.

A WORD OF CAUTION

The “separate account” concept can be over-done. Isolating special-purpose activities allows

us to focus on their unique attributes, but it also increasesadministrative efforts (such as reconciliations) and may by-pass routine controls over the disbursement process.

For example, superintendents may believe they cannotfunction without a separate “jobsite” checking account. But,are they really saying that your normal A/P process is notresponsive?

If such accounts are actually needed, control risk by keep-ing a very small balance in the account, thus forcing yoursupers to frequently document transactions and obtainreimbursements.

Consider alternatives to jobsite accounts, such as using pur-chasing cards or patronizing approved hardware stores/lumber yards where small purchases may be charged.

Exhibit 1: DEFENDING AGAINST CHECK FRAUD

PHYSICAL PROTECTION: Use of safety paper, special inks,watermarks, and micro-printing; custody of blank check stock.

EFFECTIVE PROCESSING: Separation of the approval,preparation, and recording processes; multiple signaturesrequired on large checks; performing timely reconciliations.

BANK SERVICES: Use of imprest balance accounts, ACH debit blocks, and positive pay; placing a cap on checkamounts.

PAYMENT ALTERNATIVES: Use of direct deposit for payroll; making electronic payment to vendors.

CFMA BP January-February 2003

Banks and vendors are also creating solutions with in-creased controls and reporting; they are offering pricingincentives to use their cards, cutting the cost of recordingsmall transactions, and improving controls.

Fraud Control

With A/P activity occurring exclu-sively in the disbursement account,focus your fraud-control effortsthere. Begin with an analysis ofyour company’s entire A/P process,from invoice processing throughapprovals, check-writing proce-dures, and signatures.

Responsibility for preventing check fraud is shifting to bankcustomers. Contractors need to demonstrate that they use“ordinary care” in creating and handling check payments.

This includes using checks with imbedded security features,retaining custody over checks (both blank and prepared),ensuring accuracy regarding payees, and performing timelyreconciliations. (Exhibit 1 on the previous page lists addi-tional ways to prevent check fraud.)

POSITIVE PAY & ACH

To stay ahead of criminals, banks are urging corporate cus-tomers to use “positive pay.” This is a daily transmission toyour bank listing checks that have been written. Items noton the list are not honored. (See CFM2CFM on page 37.)

Another way to prevent check fraud is making payments byACH (a bank service that uses the automated clearinghouse,

so no paper is used at all). However, such electronic pay-

ments systems create their own avenues to abuse.

For example, a convenient way to make a late utility pay-ment (to avoid service interruption) is to authorize an ACHdebit to your company’s checking account. This same pathcan be used by unauthorized vendors.

To prevent such unauthorized transactions, ask your bankto block all ACH debits prior to posting to your key ac-counts. (More information on ACH can be found in theCFO’s Toolbox beginning on page 26.)

EFTPS

Contractors with an aggregate of $50,000 in federal taxobligations (payroll, corporate income, excise) are requiredto use the electronic federal tax payment system (EFTPS)to pay these federal taxes by using pre-authorized debits tothe contractor’s bank account or ACH transfers.

Many states are following the same path for payroll,income, sales, and other taxes, plus wage garnishments. Toprotect your company’s deposit account against unautho-rized debits, consider using a separate account from whichonly EFTPS transactions are authorized. Fund the accountfor just the tax payments your company initiates. Do notallow checks to be presented on this account.

Cash Management Tools

As illustrated earlier, timely information and efficient pro-cesses are absolutely essential to sound cash manage-ment and to a contractor’s financial health. Some tools touse include:

JANUARY FEBRUARY MARCH APRIL MAY JUNE NOTES

Forecast Beginning Cash Balance 35,000 10,000 119,250 100,750 135,950 171,250

RECEIPTSFrom Customers 1,000,000 900,000 900,000 1,100,000 1,100,000 1,500,000From Insurance 4,500Other Receipts 100,000 Settlement re: job 01019

DISBURSEMENTSMaterial Suppliers -100,000 -30,000 -50,000 -90,000 -80,000 -100,000Other Contractors -250,000 -180,000 -60,000 -300,000 -410,000 -650,000Payroll-Admin. -75,000 -75,000 -75,000 -75,000 -75,000 -75,000Payroll-Field -375,000 -300,000 -325,000 -375,000 -375,000 -400,000Utilities -2,500 -2,500 -2,500 -2,300 -2,200 -2,500Rent -11,000 -11,000 -11,000 -11,000 -11,000 -11,000Payroll Taxes -148,500 -123,750 -132,000 -148,500 -148,500 -156,750Employee Benefits -63,000 -63,000 -63,000 -63,000 -63,000 -63,000Business Insurance -200,000Other -10,000

SURPLUS/SHORTFALL -25,000 109,250 -18,500 35,200 35,300 41,750

BORROWING/INVESTMENT -100,000 June: Move to MMF

Forecast Ending Cash Balance 10,000 119,250 100,750 135,950 171,250 113,000

Notes:This is not an accounting document – the focus is on process, not accuracy. Forecast several periods in advance – look for opportunities to pay down borrowings or to invest.

Exhibit 2: Sample CASH FORECAST

January-February 2003 CFMA BP

• Daily checkbook balances

• Daily bank ledger balances

• Spreadsheets to facilitate analyses

• Cash forecasts

THE CASH FORECAST

The most useful forecast for cash management purposes isa day-by-day or week-by-week projection of expectedreceipts and disbursements. (A sample cash forecast isshown in Exhibit 2.) Notice the following points:

• Receipts are used and not revenues.

• There is a focus on the timing of SG&A disbursements.

• Disbursements are broken into components (materialsuppliers, other contractors, payroll, etc.) that have dif-ferent disbursement patterns.

• Depreciation is not shown.

• Profit doesn’t appear on a line of its own.

• Capital transactions appear in full.

In a cash forecast, accounting accuracy is not the goal;

rather, it is the forecast process and effort that generates

the most benefit.

By assembling the information for the cash forecast, the cashmanager is able to identify the cash impacts of upcomingevents, determine their likely net effect, and prepare toaddress the associated opportunities and/or requirements. Ina cash forecast, precise column totals are not nearly asimportant as their signs (+/-) and order of magnitude.

The cash position worksheet (Exhibit 3) brings together thedaily bank ledger balances, the cash forecast, and any morecurrent information. With this tool, the cash manager can

project an ending ledger balance anddetermine if investment opportunities(or borrowing actions) are indicated.

Be Prepared

Ask yourself the following: Whatwould constitute a disaster for yourcompany? Injury to a key employee?No access to the computer that has allthe financial records? A power failure?Problems at your lead bank? Becauseof such possibilities, disaster recovery planning should be anessential part of your cash controls.

WHAT YOU’LL NEED

Disaster preparations should include backups for commu-nication, personnel, and information sources. Though somemay get by with a charged cell phone and a few phone num-bers, most will want a file folder containing these essentials:

• Account numbers

• Phone numbers (for bank contacts and the peoplewithin the company that have access to the data youwill need)

• A list of recent balances

• Blank worksheets

• A copy of the current forecast

• A reminder list of recurring transactions (scheduleddates for payroll, tax deposits, insurance and bene-fits premiums, reminders for loans and/or invest-ments, etc.)

And, don’t forget about information outflow. Make a recordof what took place during the downtime so it can be added

to the regular system once it’s up and running again.

Prepare for your own absence, too. Who are your back-ups? Is there someone who can orchestrate the processso all essential activities are addressed while you areaway? Make sure this person will have the access (pass-words, contact information, user numbers) needed todeal with your banks, computer systems, etc.

The Fine Print

For an incorporated contractor, access to cash is basedon authorizations given to its bank by its Board of Dir-ectors. Banks typically have their own documents to setup accounts, including signature cards, resolutions, cashmanagement agreements, credit applications, etc.

While it may be expeditious (in the short run) to merelysign and submit the bank’s standard forms, it is often bet-ter to take time to be selective.

MASTER A/P PAYROLLACCOUNT ACCOUNT ACCOUNT NOTES

Beginning Bank Balance 643,158 20,000 1,000

RECEIPTSBy Wire 127,311 from job #0219By ACHBy Check 79,256

DISBURSEMENTSEstimated Clearings -50,000 -14,000Tax Deposits -7,568 wire to EFTPSEmployee Benefits -2,950 wire to Blue Cross

INVESTMENTS -200,000 move to MMF

BORROWINGS

OTHERTransfer to A/P acct. -50,000 50,000Transfer to P/R acct. -14,000 14,000

Est. Ending Bank Balance 575,207 20,000 1,000

This worksheet helps organize one day’s cash information. Pencil entries allow revisions/additions throughout the day.

Exhibit 3: Sample CASH POSITION WORKSHEET

CFMA BP January-February 2003

Standard bank forms typically cover check signing and stoppayment authorizations. However, they may also cover func-tions the Board or owners may not want to delegate, such asauthorities to borrow, pledge property, sell securities, or uni-laterally designate other people to sign checks. For that rea-

son, read all forms and cross out items that do not apply.

USING YOUR BOARD

There are other services not covered in standard bankaccount documents that your Board may wish to consider.For example, it may be worthwhile to require a second sig-nature on checks over a certain amount.

This can be inserted on the bank’s standard signaturecard and resolution with a statement such as: “One sig-nature is required for all checks and orders for paymentless than $100,000; larger orders require two signatures.”Your internal administrative procedures should mirrorthis requirement.

Other services not normally found in standard bank docu-ments include authorization for facsimile signature use,authority to initiate wire transfers, designation of the per-son who decides the cash management and informationservices the bank is to provide, etc. In addition, authoriza-tions for credit lines, loans, and letters of credit also requireseparate attention in standard bank documents or needtheir own separate documents.

If your company has sufficient bank activity, your Boardmay be able to adopt its own “standard” bank resolution,specifying which officers are authorized to open and main-tain accounts, endorse items for deposit, sign checks, issuestop-payment instructions, designate other signers, etc.

Some of these authorities can be restricted; for example,having a document that authorizes “any two of the chair-man, the president, the treasurer, and the secretary” to per-form certain functions.

MAKING THE MOST OF YOUR BOARD

Banks expect Boards to authorize use of banking services.Ask your Board to adopt a banking policy that addresseswho has the authority to do the following:

• Access bank balances

• Make decisions regarding movements of funds be-tween the company’s bank accounts

• Release credit information to owners, vendors, andother contractors

• Authorize investments

• Arrange letters of credit

ONE LAST WORD . . .

Cash activity is regulated by several governmental bodies, theUCC, and various bank disclosure documents. For example:

• The Federal Reserve dictates processing time for checks,minimum and maximum check dimensions, what appearson a check, where endorsements can appear on the backof deposited checks, etc.

• The UCC defines check fraud and rights of restitution.

• Bank disclosure documents are very specific on suchpoints as when your account will be credited, how andwhen interest will be calculated and paid, who is respon-sible for fraud, how many days you have to reconcile youraccount and point out bank errors, etc.

Be careful to read all of these materials from a contrac-

tor’s perspective and not your personal point of view.

Rules for consumers are often much more lenient than forcorporations.

Conclusion

Effective cash management is nothing more than a well-thought-out plan that integrates common sense, timelyaction, accurate records, and meaningful controls to meetyour firm’s needs. Put the pointers in Exhibit 4 to good useand you will better manage your company’s risk, whileimproving its bottom-line results.

GORDON B. MARSHALL is Vice President Finance andTreasurer of The Pepper Companies, Inc., a nationwide generalcontractor based in Chicago.

Gordon is a graduate of Northwestern University, Evanston, ILwith a BSBA in Accounting; the University of Chicago with anMBA in Finance; and the College of Lake County, IL with anAAS in Architecture and Building Construction Technology. APast President and national Director of CFMA, Gordon isFounder and Past President of CFMA’s Chicago Chapter.

Active in many industry organizations, Gordon is a Trustee andPast President of the American Council for Construction Educa-tion (ACCE), immediate Past President of the InternationalAssociation for the Professional Management of Construction(IAPMC), and a member of the AICPA.

Phone: 847-381-0925E-Mail: gmarshall@pepperconstruction.comWeb Site: www.pepperconstruction.com

BP

Exhibit 4: INTERNAL CONTROLS AT A GLANCE

✑ Send timely billings.

✑ Make timely deposits.

✑ Manage disbursements.

✑ Use cash forecasts.

✑ Use cash-position work-

sheets.

✑ Use imprest balance

accounts.

✑ Sweep accounts

to MMFs.

✑ Close dormant accounts.

✑ Take discounts.

✑ Perform timely reconcili-

ations.

✑ Segregate job functions.

✑ Read what you sign.