Paying down any debt you may have is generally the first option considered when deciding what to do with a cash surplus. Rightfully so because a short-term investment of your cash surplus is not likely to yield a return equal to or greater than the rate of interest on any of your debt. It doesn't make any sense to invest a cash surplus at 5 percent when you can pay down a bank loan that is charging interest at 12 percent. However, the decision to automatically pay down debt may not be correct in all cases.
One of the key advantages of managing your cash flow is the ability to predict the future cash requirements for your business. That is, it should help you determine when your business may need to rely on external financing as a source of cash. The need for external financing may be the result of expanding your business, purchasing new property or equipment, or just getting you through a normal seasonal down period.
Whatever the reason, preparing a cash flow budget is the best way of predicting these future needs for cash. With at least some indication of your future cash needs, you can then make some decisions regarding the best way to finance those needs.
For example, you may feel that interest rates are relatively low at this time
and that you look for them to rise in the near future. Therefore, instead of
using your cash surplus to pay off a two-year loan at 10.5 percent, it may be
beneficial to invest the surplus temporarily, and avoid a much higher interest
rate on a bank loan one year from now.