12 Questions
What is the primary goal of cash management?
To minimize non-earning cash balances
Which of the following is a reason for holding cash?
To comply with creditors' covenants
What is the Cash Budget used for?
To present the expected cash inflows and cash outflows
What does the Baumol Model balance?
The opportunity cost of holding cash against the transaction costs
What is the purpose of determining the target cash balance?
To ensure sufficient cash to meet financial obligations
What is the precautionary motive for holding cash?
To anticipate unexpected cash outflows
What is the main goal of synchronizing cash inflows?
To hold low transactions balances
What is the definition of disbursement float?
The value of the checks the firm has written but which are still being processed
What is an example of an interest-bearing security?
Discount paper
What is the primary function of a finance manager in accelerating cash collections?
To install proper internal control for speedy recovery from debtors
What is a type of marketable security that is a short-term loan to commercial banks?
Negotiable Certificates of Deposit
What is the main purpose of a Money Market Mutual Fund?
To sell shares to investors and then accumulate the funds to acquire money market instruments
Study Notes
Cash Management
- Cash management involves controlling cash receipts and payments to minimize non-earning cash balances.
- Reasons for holding cash include:
- Transaction facilitation (e.g., paying for supplies, payrolls, taxes, and interest on debts)
- Precautionary motive (due to unsynchronized cash inflows and outflows)
- Compliance with creditors' covenants (maintaining a certain percentage of borrowed funds in bank accounts)
- Investment opportunities (taking advantage of excess cash)
- Determining target cash balance involves:
- Cash budget
- Cash break-even chart
- Optimal cash balance using the Baumol Model or Miller-Orr Model
Cash Management Techniques
- Synchronizing cash inflows (coinciding with outflows to hold low transaction balances)
- Float:
- Defined as the difference between the balance shown in firm's books and the bank's record
- Types:
- Disbursement float (value of checks written but not yet deducted from firm's account balance)
- Collections float (amount of checks received but not yet credited to firm's account)
- Accelerating cash collections (speedy recovery from debtors through internal control)
- Controlling disbursement (slowing down disbursement of funds to reduce cash balance)
Marketable Securities Management
- Marketable securities are high-investment-grade instruments, including:
- Treasury bills
- Commercial paper
- Certificates of time deposits from commercial banks
- Money market notes
- Types of marketable securities:
- Money market instruments:
- Discount paper (sells for less than par value)
- Interest-bearing securities (pay interest based on par value and investment period)
- Treasury bills (short-term government securities with maturity of one year or less, issued at a discount)
- Other short-term commercial paper (issued by finance companies, banks, and corporations with maturities ranging from days to 270 days)
- Negotiable certificates of deposit (short-term loans to commercial banks with maturities from weeks to several years)
- Repurchase agreements (repos)
- Banker's acceptance (time draft drawn on and accepted by a bank)
- Money market mutual fund (open-ended fund that invests in money market instruments)
Understand the importance of cash management in business, including transaction facilitation and precautionary motives. Learn how to control cash receipts and payments to minimize non-earning cash balances.
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