In recent years, several Treasury folks have been saying, “Float is dead” and they support that conclusion by multiplying the savings of float time by a current/short term interest rate. And in a low interest rate environment, they view that value as inconsequential compared to process efficiencies that can be gained in the Treasury processes. This leads to erroneous conclusions since it begins with a false premise.
What they mean to say and indicate is that Float is not as important as those areas. However, float remains very important for a number of reasons. Those that say that Float is not important begin with a faulty premise that all Float savings should be calculated at the short-term interest rate. This is true when there is a one-time change in Float – for example: moving a single payment or collection activity up a number of days. We agree – the value for that type of savings should be calculated using a short-term interest rate. However, a permanent or on-going change in float (i.e. moving a stream of payments or your entire universe of collection activities ) that should be valued using a longer-term interest rate – one that more accurately reflects the change you are making.
When making a permanent change in float due to some initiative using weighted average cost of capital or an interest or rate that approaches weighted average cost of capital is more appropriate. This can be supported by multiple lines of reasoning – including using an owner’s expectations. If you moved an entire stream of payments up, you would have those funds available to either be reinvested in the business or returned to the owners, they would NOT be expecting a 2, 3 or 4 percent rate of return on their funds (the short term rates of the past few years). They would expect to realize at least a weighted average cost of capital return- or give me my money back.
Using a number that is too conservative to value the Float savings that you can achieve (wherever it is in the working capital and cash conversion cycle) will lead you to make incorrect decisions regarding processes and bank services.
Float is certainly alive and important.