Put Your Idle Cash To Work

There are several good places to keep your company's cash when it isn't being used. And a checking account isn't one of them.
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Record interest rates can be a boon as well as a bane to small business. To take advantage of high returns, however, a company must put every available dollar to work and not leave idle cash in checking accounts. A recent sampling of Boston-area small businesses revealed that an average daily balance of $30,000 in unused available cash was retained for every $1 million in annual sales.

It doesn't take a computer to calculate that at 13% -- the yield that's currently available -- $30,000 is worth an extra $3,900 in gross profit. Yet if the Boston group is any indication, firms are not tapping their investment resources despite the growing number of cash "parking lots" available. There are enough options today for any firm to select appropriate liquidity and safety while getting an advantageous return.

At least one high-yielding repository is set up so that putting idle cash to work does not require the intercession of the company controller. The service involves "sweeping" a checking account at the close of bank business each day and moving any balance over a specified amount into a money market fund, where it earns daily interest until it is needed back in the account. The bank uses the account's "float" -- a sum that includes uncollected drafts -- as well as the amount shown as the balance on the company's ledger.

Sources estimate the number of banks now providing this service at about three dozen. But Mastercard International announced in March that it will soon begin offering its 12,500 member banks the option of providing a similar service to their customers, and many of them are expected to take advantage of it. The service gives the customer the choice of several different money funds.

Alternatively, a business could run much of its checking directly through a money market fund. Under the press of competition, just about every money fund provides free checking. Money-fund checking is particularly useful for "big-ticket" accounts, since funds impose minimum draft amounts of $250 to $500 and they limit the number of drafts written per month. Another stricture is that they may not accept third-party deposits -- drafts that are endorsed over to the depositor. But a money market account may neatly satisfy interest-bearing checking account needs.

Money funds pay dividends rather than interest. Money on deposit with them is invested for the most part in high-grade, short-term commercial paper and federal debt instruments. Though accounts are not guaranteed, fund managers employ a prudent approach to risk. Interest is earned daily and posted monthly as a dividend via additional fund shares. To take maximum advantage of daily interest, fund managers recommend wiring in deposits. And to keep deposits at work as long as possible, most money funds will wire out payments as well, thus paying interest through the last possible day.

Discretion may dictate that a business leave funds on deposit at its bank. But those funds need not be subject to the interest restriction imposed by the federal government on short-term deposits. If the bank can't "sweep" accounts or the customer doesn't care to risk money-fund deposits, the bank might still pay competitive rates through what's known as a repurchase agreement, or "repo." Under this arrangement, a bank agrees to sell a government security from its portfolio to a customer and to buy it back at a specified or unspecified later date at the same price plus accrued interest. Essentially, it's like making a secured loan to the bank. Banks differ substantially in requirements and payouts. Some will deal in repo's for as little as $20,000, while others require a minimum of as much as $100,000. Involvement can be as short as overnight.

Another incidental service that some banks may offer to keep themselves competitive and their customers content is a "lockbox" arrangement. In order to speed collections by a day or two and thus gain the use of funds that much more quickly, a business has its customers mail payments to a post office box in a central location. The bank then picks up the payments and deposits them immediately.

One of the earliest idle-fund parking lots was a bank certificate of deposit. They're still worth looking into, particularly since many banks can now be persuaded to pay a few percentage points more than standard rates in order to win a deposit of $100,000 or more. A CD is issued for terms ranging from 14 days to several years, with interest rates increasing for the longer maturities as they do with many interest-bearing vehicles these days. A certificate of deposit is not gold-plated, however. It is insured up to $100,000; anything beyond that is only as good as the bank that issues it -- and in this recent recession, there already have been a few quiet bank failures. A certificate of deposit can pay monthly interest but usually pays at maturity. If monthly, this interest should be withdrawn and reinvested, and not left idle in a checking account.

A company with $50,000 or more in idle cash and a controller to manage it can invest directly in commercial paper maturing in 30 days or more ($100,000 is needed for shorter terms), rather than go through a money market fund which may pay a lower yield. These investments are similar to CDs but are issued by the financing arms of major corporations such as Ford Motor Credit, rather than banks, to meet short-term borrowing needs. Again, they're backed only by the issuer's underlying credit. Commercial paper is written for terms as short as one day and ranging up to 270 days. There can be three-quarters of a point difference in yields from the same borrower, depending on risk factor and maturity.

A company seeking the liquidity of a money market fund but not willing to risk an investment in commercial paper can direct its excess cash into a recent arrival on the scene: a fund that deals exclusively in government-backed instruments such as Treasury Bills. But added safety comes at a cost. An exclusively federal portfolio is apt to yield nearly a point less than a standard mix.

As with individual taxpayers, corporations paying the highest marginal rate can benefit from tax-free situations. One such is a tax-free money fund -- an entity that invests primarily in public housing authority notes plus other state and federal short-term vehicles. Like their taxable brethren, tax-free money market funds offer the usual perquisites, including free checking. But their yields will be about half those of a taxable fund. With careful shopping, a controller might gain a fractional edge through tax-free returns.

Another entry into the tax-free market is by tax anticipation notes which, as the name suggests, are issued by state and local authorities against the future collection of taxes. These notes are free of federal taxes and usually of state and local taxes as well. Maturities are from 30 days to one year.

Treasury Bills, secured by the credit of the United States, are free of state and local taxes, but not of federal tax. Their yields are often competitive with taxable money market funds but the instruments are not quite so liquid (though there is a ready market for unmatured T-Bills). To save bank commission charges, Treasury Bills can be purchased directly from the issuing body, a Federal Reserve bank. The interest on T-Bills is discounted, which means that it is paid upon purchase and the amount is subtracted from par (i.e., a $1,000 T-Bill yielding 12% will cost $880 at the window).

A variation on the tax-free theme comes with a so-called qualified dividend mutual fund, designed specifically so that corporations pay only an extremely low tax. The concept is based on the IRS provision that domestic corporations can deduct 85% of the dividends they receive from other taxpaying corporations. Thus the effective tax rate is at maximum only 6.9% -- 15% of 46%. If a fund paid 9.5% in dividends, the yield would be the equivalent of 16.5% fully taxed. Though some qualified dividend funds invest only in preferred stocks and return outstandingly high dividends, others open their portfolios to the possibility of capital gain by taking in common stocks. One warning: A closely held corporation can be hit with an accumulated earnings tax if it has more than $250,000 invested in such funds.

High interest rates have bred many more high-yield opportunities for the "parking" of excess cash than have been discussed above. Companies should carefully select the combination of yield, security, liquidity, and ease of management that matches their needs. A firm may find it convenient to let a bank or mutual fund manage its investments. But with the sophisticated electronic controls available to a company's treasury, such as computerized cash management systems (see INC., April, page 48), a controller can -- and should -- wake up a firm's idle dollars and make sure they are as productive as any company employee.

Last updated: May 1, 1982




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