[ Music ] >> Heitor Almeida: Our second example is about seasonality, okay. So for form, many companies in the in the real world of the common situation is that sales tend to be higher in the fourth quarter, right. But on the other hand you know expenses are not necessarily seasonal. Expenses can come at any time of the year, okay. So that's going to generate seasonality in cash flows which, when you couple that with accounts receivable, that is going to generate a need for short term financial planning. Okay, so this is what we're going to characterize here using a simple numerical example, okay. So here you have an example of a situation where sales are seasonal, you can check that sales start slow and then they pick up in the fourth quarter, okay. Let's say that the company starts the fourth quarter with receivables equal to 15, okay. So what this means is that the company's going to collect this 15, let's say $15 million this quarter, and then you're going to collect some cash from the sales this period, let's say that your collection, the percentage of sales that you collect this period is 80 percent, okay. So you sell 87.5 you collect 80 percent this period, okay. And in addition to that you collect the existing receivables, okay. So you had 15, so your total collection is 85 million this period, right. And now what we're going to think about is you know, what happens in the future quarters. So let's go here. Okay. Right, so think about this. We have, you have degenerated 70, right, I mean you have sold 87.5 in the first quarter, collected 70 this quarter, so what happens to the rest? It becomes an account receivable, right. The 17.5 becomes a receivable that then you're going to collect next quarter, right. So this is a little bit like our inventory example that there is the [inaudible] of collection of cash, okay. So the 17.5 gets collected next quarter, right. So that is going to be your accounts receivable from, from last period, okay. In addition to that you have the sales from this period, okay. So you're going to collect in the second quarter you collect 80 percent of that. If you do the calculation you're going to get 62.8, okay. So your total collection in the second quarter is 8.3, 80.3, okay. And then you know, the model goes on same way as we did for the first quarter, you're going to generate some receivables in the second quarter and so on and so forth, okay. So here you have the answer, okay. Here you have the answer with the numbers that we plugged in, and in fact all the numbers for the fourth quarter, okay. So you collect 80.3 in the second quarter, 108.5 in the third quarter, and then you collect 128 in the fourth quarter, okay. So you can see that cash collection becomes seasonal as well, right. Because your sales are seasonal you're going to collect more cash in the first quarter, sorry in the fourth quarter than in the first quarter, okay. Let's think about expenses now, right. So you have the collection here that we just computed, okay. Let's say that there is one more source of cash, just for the sake of the example, it comes in the third quarter so it's 12.5 million for you know, any reason there is another inflow of cash, so it goes to 121 in the third quarter. And now there are the users of cash, right. So you have to make payments on accounts payable, have to pay your labor expenses, and an important one, let's say that there is a capital expenditure that the company has to pay for in the first quarter, okay. The timing of the capital expenditure doesn't have to coincide with the, doesn't have to coincide with the timing of sales so it's plausible that it has to come, that it's going to up early in the year, okay. What this means is that you're going to have a high usage of cash in the first quarter, okay. If you sum all of these sources you're going to get 131.5 million, okay. Which then means that the company is generating a negative cash flow of minus 46.5 in the first quarter, you generate minus 15 in the second, 26 in the third, and then 35 in the fourth quarter, okay. So the pattern is a seasonality pattern where you generate negative cash flow in the first two quarters and then positive in the last two, okay. So suppose that the company has some cash, okay, in the balance sheet. So you have five million dollars in cash but you have no excess cash. So this five million is the minimal amount that you think you should have for precautionary reasons, this is something we discussed already in this model, companies may need to keep a certain amount of cash, okay. Let's say that this is your minimal operating balance, right. And we compute it in our example the sources minus users, right, so the amount of cash that the company is generating, right. So the question is how much does the company need to borrow at the end of each quarter, right. So try to think about that yourself. Okay, and here is the answer, right. So since you cannot use your cash, it says that you have no cash, right. This is your minimum borrowing, minimum operating balance so the situation is just as if the company didn't have any cash in the balance sheet, okay. So what you're going to have to do is you're going to have to borrow at the, at the end of the, of the first quarter you're going to have to get the 46.5 million from somewhere. Notice that here we are taking the cash into account, right. So we're doing what we did in the past an example for the long term but in this short term model, but we are already taking that cash into account, so really the company does need to get 46.5 from somewhere, okay. In addition to this you know, in the second quarter you generate an additional negative cash flow. So now you have to borrow 16, 15 million dollars more, okay. So by the end of quarter two the company needs to borrow 61.5 million, okay. And this is a short term financial need. Why? Because, as we did, as we discussed, the company is going to generate cash in the third and the fourth quarter so when you get to the end, right, when you get to the fourth quarter the company can essentially repay everything, okay. So you can, if you borrow 61.5 by the end of quarter two, when you get to the end of the year your cumulative financial requirement has gone down to zero. This means that the cash flows you generate in quarter three and four are sufficient to pay for the amount that you had to raise, okay. So the question is now is how can the company do this, right. You have a short term financial need, right. You have to get some cash in the beginning of the year and then repay it at the end of the year. What are the options that, that this company has, okay. The first option is to make a short term loan, right. It doesn't have to be a long term loan because you can repay it within the year. But you might have to raise some money, okay. So one option is to open a credit line with a bank. In the next example we're going to talk more about credit lines, which is a very important corporate finance instrument. Here you could use a credit line as well. Just have a credit line open with a bank saying that you could borrow for example 65 million dollars from the bank. And then if the company has a cash you need in the first two quarters you could raise that cash and then repay it at the end of the year, okay. Another option is to increase your cash balance, right. You can always use your existing cash to manage the financial need, but this company doesn't have enough cash. So if you're going, if you're going to use cash balances to manage these liquidity needs you're going to have to raise more either from long, either from long term financial sources, right. So maybe you have to issue a bond or issue equity, or perhaps the company can save cash from operations, okay. And finally the third option that the company has is to change operations, right. If you are having difficulty managing your liquidity using just financial variables what you can do is to change your operations, for example delaying the capital expenditure, right. If you can delay the captain expenditure from the first quarter to the fourth quarter, that will be sufficient for you to manage your cash need, okay. Or try to extend accounts payable, right. You can try to get financing from suppliers. And finally, one option that the company could contemplate is to sell receivables, right. Is to either sell the receivables to a factory forum, or maybe borrow money from a bank using receivables as collateral, okay. Changing operations of course is an option that companies should generally avoid, right. For example delaying the capital expenditure might be costly for the company, right. If you need to make the investment now, delaying it to the end of the year may not be the best option. So in general what we recommend is that if you can use a financial you know, like a loan or a credit line to manage this short term liquidity need, it might, it will generally be more desirable than changing operations, you know, for example going to your suppliers and asking them to extend accounts payable, that's going to be a costly option for the business. Raising a short term loan is generally going to be a lower cost option.
