cash mgmt.ppt

7/28/2019 cash mgmt.ppt

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Cash management

The key issues in cash management

Estimation of cash requirements through

cash budgets

Reports and control

Monitoring collections and receivables

Optimal cash balance

Investment of surplus funds


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Focus of Cash management

Matching inflows with the outflows

Shortage and surplus management

To balance liquidity and profitability


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Cash budgets are planning tools Cash budgets

Short term budgets For a period less than a year- to cater to the

operational requirements

Long term budgets For a period than a year- to cater to the long term

fund requirements

The short term budgets are prepared based on forecasted receipts

and payments method

The long term budgets are prepared based on sources and uses of funds


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Cash reports are controlling tools

Daily reports

Weekly reports

Monthly reports


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1 Opening Balance

2 Receipts sales

- Collection

- Loans

- Other receipts

3 Payments Purchases

- Payments to creditors

- Loan repayments

- Asset purchase & other payments

4 Net Cash flow (2-3)

5 Closing Balance (1+4)

Cash reports


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Treasury Reports

Reports all liquidable CAs1 Opening Balance Cash

- Securities

- Receivables

2 Purchase of the above

3 Sales of the above

4 Closing Balance (1+2)-3


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Cash collection and disbursements

Speed up the collection process

Delaying payments


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Optimal cash Balance

Opt imum Cash Balance under

Certainty: Baumols Model

Opt imum Cash Balance under

Uncertainty: The Mil lerOrr Model


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Baumols ModelAssumptions

The firm is able to forecast its cash needswith certainty.

The firms cash payments occur uniformly

over a period of time. The opportunity cost of holding cash is

known and it does not change over time.

The firm will incur the same transactioncost whenever it converts securities tocash.


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The firm incurs a holding cost for keeping

the cash balance. It is an opportunity cost;

that is, the return foregone on the marketable

securities. If the opportunity cost is k, thenthe firms holding cost for maintaining an

average cash balance is as follows:

C/2= Average cash balance for the period

I= interest rate on marketable securities

Holding cost = I(C/2)


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The firm incurs a transaction cost wheneverit converts its marketable securities to cash.

Total number of transactions during the yearwill be total funds requirement, T, divided bythe cash balance, C, i.e., T/C. The pertransaction cost is assumed to be constant. If

per transaction cost is c, then the totaltransaction cost will be:

Transaction cost = F(T/C)

F=Fixed transaction cost

T=total demand for cash during a specified period


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The total annual cost of the demand for cash will

be:

Total cost = I(C/2)+F(T/C)

The optimum cash balance, C*, is obtained

when the total cost is minimum. The

formula for the optimum cash balance is asfollows:

C=I

FT2


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Illustration

Suppose ABC Ltd expects total cash

payments over a period of 2 months to

be Rs.100000, while fixed costs per

transaction is Rs.100 and the interestrate on marketable securities is 12% p.a.

a. Determine optimum cash balance using

Baumol model

b. What is the total cost at this level


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C= IFT2

02.10010000002 xx

C= Rs.31623

TC= )2

31623(02.0100)

31623

100000(

TC=316.2+316.2

=632.44


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Advani Chemical Limited estimates its total

cash requirement as Rs 2 crore next year.

The companys opportunity cost of funds is

15% per annum. The company will have toincur Rs 150 per transaction when it converts

its short-term securities to cash. Determine

the optimum cash balance. How much is the

total annual cost of the demand for theoptimum cash balance? How many deposits

will have to be made during the year?


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15.0

15022 xx

C= Rs.200000

TC =

C =

)2

200000(15.0150)

200000

20000000(

TC= 15000+15000

TC= 30,000

During the year, the com pany w il l have to make 100 deposits,

i .e. convert ing marketable secur i t ies to cash.


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27.3

Sanman ltd requires Rs2.5 million cash

over next 6 months. Currently it holds

marketable securities. Company earns

10% on its securities. The conversion ofthe securities costs Rs.1200 per

transaction. What is the optimal cash size

as per Baumols model/


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C= Rs.346410

05.0

120025000002 xx

C =


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EOQ model of Baumol cannot be reliedwhen there is unpredictable cashrequirements.

There are extreme cash points andfluctuations cannot be predicted

Set the control limit

Upper limit Lower limit

Return point


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The MillerOrr Model

If the firms cash flows fluctuate randomly and hit

the upper limit, then it buys sufficient marketable

securities to come back to a normal level of cash

balance (the return point). Similarly, when the firms cash flows wander and

hit the lower limit, it sells sufficient marketable

securities to bring the cash balance back to the

normal level (the return point).


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Illustration

Interest rate is 12% p.a. A transaction of

buying and selling securities cost

Rs.1600. The standard deviation of the

change in daily cash balance is Rs.5000.The management would like to maintain

a minimum cash balance of Rs.50,000

a. Determine the Return point

b. Upper limit of cash balance


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3

4

23

I

FRP = +LL

I= 0.12 / 360

= 0.000333


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4x0.00033 = 0.00132

3x1600x(5000x5000)

=120,000,000,000

3

00132.0

001200000000 + 50000

= 44962.5+50000

= 94962.5

UL = 3x94962.5 2x50000

= 184887


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27.4

Avinash Company expects its cash flow to

behave in a random manner. The co expects to

establish the Upper control limit and the return

point based on the following information

The annual yield on marketable securities is 12% The fixed costs of transaction is Rs.1200

The standard deviation in the change in daily cash

balance is Rs.6000

The Co expects to maintain a minimum cash balanceof Rs. 100,000


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3

4

23

I

FRP = +LL

I= 0.12 / 360

= 0.000333


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4x0.00033 = 0.00132

3x1200x(6000x6000) =129,600,000,000

3

00132.0

001296000000+ 100000

= 46133+100000

= 146133

UL = 3x146133 2x100000

= 438399 200000

= 238399


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Investment of surplus funds

Criteria

Liquidity

Safety

Return


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Avenues

Inter corporate deposits/ lending T-bills

Certificate of deposits

Commercial paper ST bank deposits

Bill discounting


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Cash budgets A firm makes 80% of its sales on 30 days

credit basis. 80% of the sales is collectedafter one month and remaining in the 2nd

month. Calculate the expected cash reciepts

based on the sales forecasts available for themonth Nov 12 to Apr 13

Nov Dec Jan feb Mar Apr

500 600 550 660 700 1000


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cash mgmt.ppt

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