17 The Management of Cash and Marketable Securities ©2006 Thomson/South-Western
Dec 28, 2015
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The Management of Cash and Marketable Securities
©2006 Thomson/South-Western
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Introduction
This chapter reviews the various cash management decisions made by financial managers.
The financial managers must consider the risk vs. return trade-offs characteristic of these decisions.
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Cash and Marketable Securities Are the most liquid of a firm’s assets
Cash consists of currency and deposits in
checking accounts.
Marketable securities consist of S-T
investments made with idle cash.
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Cash Management Function Concerned with determining
The optimal size of a firm’s liquid asset balance
The most efficient methods of controlling the collection and disbursement of cash
The appropriate types and amounts of
S-T investments
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Cash Management Decisions
Must consider the risk versus expected return trade-offs from alternative policies
Check out cash management at this Web site:http://www.bankofamerica.com/
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Reasons for Holding Liquid Assets Transactions
Precautionary
Future requirements
Speculative
Compensating balances
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Cash Budget
Required because cash inflows and outflows are seldom synchronized
First step in cash management Show forecasted receipts and disbursements Show forecast of any cumulative shortages or
surpluses Series of cash budgets
Daily Weekly Monthly
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Bank Services
Maintenance of disbursement and payroll accounts
Collection of deposits Lines of credit Term loans Handling of dividend payments Registration and transfer of stock Supply credit information Consulting advice
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Cash Management
Determination of the optimal size Compensating balance requirements establish
lower limit Holding excess liquid assets results in an
opportunity cost Inadequate liquid balances result in shortage
costs Missing cash discounts Deterioration of the firm’s credit rating Higher interest costs Risk of insolvency
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Cash CollectionOpportunities to increase the available cash balance Float Decentralized collection system Lockbox Wire transfers Depository transfer check (DTC) Electronic depository transfer check (EDTC) Courier service Preauthorized check (PAC)
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Float
Positive Balance at bank is greater than the firm’s balance
Negative Firm shows a higher balance than bank’s
Management's goal Speed collection/slow disbursements
Components of float Mail float Processing float Check clearing float
A number of systems can be used to reduce the float
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Lockbox System
Local bank Empties the box Deposits payments in the firm’s account Makes a report of the payments
Firm makes disbursements of funds in excess of compensating balances
Involves significant fees More beneficial for small number of larger
deposits Evaluation involves comparison of costs versus
benefits of faster collection
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Setting Up Lockboxes
This Web site will set up and operate a lock box system:http://www.firstunion.com/index.html
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Slowing Cash Disbursements Zero-balance system
Transfers cash in the exact amount required for the cleared checks
Drafts Deposit funds only after the draft is presented
for payment. Synchronize deposits with check
clearings Requires accurate estimates of float
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Cash Management for Small Firms Less-extensive access to capital markets Cash shortage may be more expensive to
rectify. Many small businesses are rapidly
growing. May have low balances of cash resources
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Choosing Marketable Securities
Default risk Lowest on U.S. Treasury securities Risk and expected return inversely related
Marketability Sold quickly without significant price concession
Maturity Shorter maturities have less risk of price
fluctuation Rate of return
Least important consideration
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Marketable Securities
T-Bills Treasury Issues
Fed Agency
S-T Municipal Securities
Negotiable CDs
Commercial Paper
Repurchase Agreements
Banker’s Acceptance
Eurodollar Deposits
Money Market P/S
Money Market Mutual Funds
Money market Accounts
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Multinational Corporation (MNC) Difficult and costly currency transactions Cash transfer facilities Greater variety of investment opportunities Usually have centralized cash management Tracks cash balances around the world Identifies best sources of S-T borrowing/ lending Use Multilateral netting
Cross-border transactions are netted off to minimize costly transactions and misdirected funds.