For Midterm 2 Flashcards
This involves the maintenance of the appropriate level of cash and investment in marketable securities to meet the firm’s cash requirements and to maximize income on idle funds.
Cash and Marketable Securities
are subject to significant control risk
Liquid Assets
are the primary concerns of the treasurer when dealing with highly liquid assets
Liquidity and Safety
are held because of their ability to facilitate routine operations of the company.
Cash and short-term Investments
These assets are not held for purposes of achieving investment returns.
Cash and Short-term Investments
The following are reasons why the Company would need to hold cash :
Transaction Purpose
Compensating Balance Requirements
Precautionary Reserves
Potential Investment Opportunities
Speculation
cash balances needed to conduct the ordinary business transactions
Transaction Purpose
the amount left in the checking balance to be maintained at all times as part of a loan agreement.
Compensating Balance requirements
This amount compensates the bank for services
rendered by providing it with deposits of funds.
Compensating Balance requirements
these are used to handle unexpected problems and contingencies due to the uncertain pattern of cash
inflows and outflows.
Precautionary reserves
used to build up in anticipation of a future investment opportunity such as a major capital expenditure project.
Potential investment opportunities
to a practice of delaying purchases and store up cash for use later to take advantage of possible changes in prices of exchange rates.
Speculation-
the difference between the bank’s balance for a firm’s account and the balance that the firm shows on its own books
Bank statement vs book balance
two aspects of float
1.the time it takes a company to process its checks internally
2.The time consumed in clearing the check through banking system
Types of float
- Positive Float
- Negative Float
- Mail float
- Processing Float
Clearing Float
occurs when the bank balance exceeds the book balance
Positive Float
occurs when the book balance exceeds the bank balance. It shows that there is more cash tied up in the collection cycle
Negative Float
occurs when the payment has already been mailed by a customer but not yet received by the Company.
Mail Float
occurs when customers’ payments have been received but not yet deposited.
Processing Float
occurs when customers’ checks have been deposited but not yet cleared.
Clearing Float
Cash Management Strategies
- Accelerate Cash collections
- Control or slow down cash disbursement
3.Reduce the need for precautionary cash balance
o Bill customers promptly o Offer cash discounts for prompt payment
o Use of lockbox system
o Establish local collection office
o Ask customers to make direct payments to the firm’s depository bank
o Use of automatic fund transfer or electronic fund transfer
Accelerate cash collections
● Stretch payables
● Maintain zero-balance accounts (ZBA)
● Play the float
● Less frequent payroll and schedule issuance of checks to suppliers.
Control or slow down Cash Disbursement
● More accurate cash budgeting
● Have ready lines of credit
● Invest idle cash in highly liquid, short-term investments instead of holding idle precautionary cash balances.
Reduce the need for pre cautionary cash balance
Similar with basic knowledge
on break even analysis
Cash Break even Chart
an EOQ-TYPE-MODEL which can be used to determine the optimal cash balance where the costs of maintaining and obtaining cash are at the minimum.
Baumol Cash Management Model
Two types of costs related to holding cash
cost of securities transaction
opportunity cost of holding cash
are those short-term money market instrument instruments that can be easily converted into cash.
Marketable Securities
Company may hold
securities because?
● It serves as a substitute for cash balances
● It serves as a temporary investment
●It is need to meet known financial obligations
Risks Involved in marketable Securiteis
Default Risk
Interest Rate Risk
Inflation Risk
issuer may not be able to pay the interest or principal on
time
Default Risk
price of the securities would fluctuate due to changes in the market interest rates.
Interest rate risk-
the risk that inflation will reduce the “real value” of investment
Inflation Risk-
How quickly a security can be sold before maturity without a significant price concession
marketability
focuses on plans and policies related to sales on account and ensuring the maintenance of receivables at a predetermined level and their collectability as planned.
Receivables Management
to have the right amount of outstanding receivable balances and bad debts.
Receivables management
is the primary determinant of account receivable
Credit Policy
Four variables of credit policy
Credit Period
Discounts
Credit Standards
Credit Policy
the length of time buyers is given to pay for their purchases
Credit Period
price reductions given for early payment.
Discounts
offering discounts mean lower prices and lower revenues.
Tradeoffs
the criteria that determine which customers will be granted credit and how much.
Credit Standards
may tend to eliminate the risk of nonpayment but may also decrease the potential sales due to rejected customers.
Strict Credit Standards
may lead to higher sales, but also higher bad debt losses and collection costs.
Liberal Credit Standards
Factors to Consider: 4 C’s of Credit
Character
Capacity
Capital
Conditions
the procedures used to collect past due accounts, including the toughness or laxity used in the process.
Credit Policy
a statement of the firm’s credit period and discount policy.
Credit Terms
