The document discusses cash and cash management. It outlines the objectives of cash management as efficient collection and disbursement of cash and temporary investment of surplus cash. It discusses motives for holding cash such as transaction needs, speculative needs, and precautionary needs. Methods of preparing a cash budget and controlling cash flows are also covered. Cash management models like the Baumol model and Miller-Orr model are explained. Finally, various money market investment options for surplus funds are listed.

1. Cash & Liquidity Management
www.pace2race.com
Prabhat Mittal 1

2. Session Outline
• Cash & Cash Management
• Motives of holding cash
• Cash Budget
• Methods of Budgeting
• Cash Management Models
• Money Market Investment Options
Put your queries on www.financeclubb.com 2

3. Cash & Cash Management
• Cash Planning
• Cash Forecasting:
Cash Management
o Receipt & Disbursement Method
Cash means Liquid
o Adjusted Net Income Method
Assets that a Business
Owns. It includes
Cheques, Money Orders • To meet Cash Disbursement as per
& Bank Drafts Payment Schedule
Objectives of Cash • To meet Cash Collection as per
Cash Management Management Repayment Schedule
means efficient • To minimize funds locked up as Cash
Collection & Balance by maintaining optimum cash
Disbursement of cash balance
and any Temporary
Investment of Cash
• Transaction Motive
Motives of
Holding Cash
• Speculative Motive
• Precautionary Motive
Put your queries on www.financeclubb.com

4. Motives of holding cash
Need for cash
Cash facilitates the meeting of the day-to-day expenses
Transaction Need and other debt payments.
Cash may be held in order to take advantage of
Speculative Needs profitable opportunities
Cash may be held to act as for providing safety against
Precautionary
Needs
unexpected events.
Put your queries on www.financeclubb.com 4

5. Cash Budget
• Helpful in Planning
• Controlling Cash Expenditure
Functions • Testing the Influence of Proposed
/Importance of Expansion
Cash Budget
Cash Budget means • Basis of Long Term Planning & Co-
estimation of Cash ordination
Receipt and Cash
Disbursement during a
future period of Time Methods of • Receipts & Payment Method
Preparing Cash • Adjusted Profit & Loss Account Method
Budget
Cash Budget is a forecast
of future Cash Receipts
and Cash Disbursement
over various intervals of • Treasury Bills
Time Investment of • Inter-Corporate Deposits
Surplus Cash • Investment in Market Securities
• Short term FD’s
Put your queries on www.financeclubb.com 5

6. Methods of Budgeting
• Receipts and Payments Method: In this method all the expected receipts
and payments for budget period are considered. All the cash inflow and
outflow of all functional budgets including capital expenditure budgets are
considered
(used for short term forecasting)
• Adjusted Income Method: In this method the annual cash flows are
calculated by adjusting the sales revenues and cost figures for delays in
receipts and payments (change in debtors and creditors) and eliminating
non-cash items such as depreciation
(used for long term forecasting)
Put your queries on www.financeclubb.com 6

7. Illustration
You are given below the Profit & Loss Accounts for two years
for a company, Sales are expected to be `
12,00,00,000 in year 3.
As a result, other expenses will increase by
`50,00,000 besides other charges. Only raw materials are in
stock.
Assume sales and purchases are in cash terms and the
closing stock is expected to go up by the same amount as
between year 1 and 2. You may assume that no dividend is
being paid.
The Company can use 75% of the cash generated to service a
loan. How much cash from operations will be available in
year 3 for the purpose?
Put your queries on www.financeclubb.com 7

8. Illustration
Put your queries on www.financeclubb.com 8

9. Illustration … project profit and loss
account
Put your queries on www.financeclubb.com 9

10. Illustration………Cash Flow
Available for servicing the loan: 75% of ` 2,54,00,000 or ` 1,90,50,000
Put your queries on www.financeclubb.com 10

11. Controlling of Cash Flows
Accelerate Cash Flows Decelerating Cash Flows
Cash Flows means Paying on Last Date
• Prompt Payment by Customers •
Cash Inflows and Cash • Payable through Draft
Outflows Adjusting Payroll Funds
• Quick conversion of payment •
into Cash • Centralization of Payments
If Cash Inflows are Making use of Float
• Decentralized Collection •
more than Cash
Outflows, it is Positive
Cash Flow and vice-
versa
Put your queries on www.financeclubb.com 11

12. Float
The term float is used to refer to the periods that affect cash as it moves through the different
stages of the collection process. Four kinds of float with reference to management of cash are:
Billing Float Mail Float
The time between the sale and the mailing This is the time when a cheque is being
of the invoice is the billing float. processed by post office, messenger
service or other means of delivery.
Cheque Processing Float Banking Processing Float
This is the time required for the seller to This is the time from the deposit of the
sort, record and deposit the cheque after it cheque to the crediting of funds in the
has been received by the company. sellers account.
Put your queries on www.financeclubb.com 12

13. Cash Management Models
The purpose of cash management models is to ensure that cash does
not remain idle unnecessarily and at the same time the firm is not
confronted with a situation of cash shortage.
All these models can be put in two categories:-
• Inventory type models; and
• Stochastic models.
Inventory type models (economic order quantity ) applies equally to
cash management problems under conditions of certainty or where
the cash flows are predictable.
However, where cash flows are not predictable, Stochastic models are
used.
Put your queries on www.financeclubb.com 13

14. Baumol’s EOQ Model
According to this model, optimum cash level is that level of cash where the
carrying costs and transactions costs are the minimum.
The formula for determining optimum cash balance is:
Put your queries on www.financeclubb.com 14

15. EOQ Model
Put your queries on www.financeclubb.com 15

16. Illustration
A firm maintains a separate account for cash disbursement. Total
disbursement are ` 1,05,000 per month or ` 12,60,000 per year.
Administrative and transaction cost of transferring cash to disbursement
account is ` 20 per transfer. Marketable securities yield is 8% per annum.
Determine the optimum cash balance according to William J. Baumol model.
The optimum cash balance C =
Put your queries on www.financeclubb.com 16

17. Miller-Orr Cash Model
This model is designed to determine the time and size of transfers
between an investment account and cash account. In this model
control limits are set for cash balances. These limits may consist of h
as upper limit, z as the return point; and zero as the lower limit.
• When the cash balance reaches the upper limit, the transfer of cash
equal to h – z is invested in marketable securities account.
• When it touches the lower limit, a transfer from marketable
securities account to cash account is made.
• During the period when cash balance stays between (h, z) and (z, 0)
i.e. high and low limits no transactions between cash and
marketable securities account is made.
Put your queries on www.financeclubb.com 17

18. Miller-Orr Cash Model
According to this model the net cash flow is completely stochastic.
3𝑏𝑏𝜎𝜎 2
� + 𝐿𝐿𝐿𝐿
3
4𝐼𝐼
UL = 3RP – 2LL
where: RP = return point
b = fixed cost per order for converting marketable
securities into cash.
I = daily interest rate earned on marketable securities
σ 2 = variance of daily changes in the expected cash balance
LL = the lower control limit
UL = the upper control limit
Put your queries on www.financeclubb.com 18

19. Money Market Investment Options for
Surplus Funds
Investment Description Maturity Liquidity
91 days, 182 days
Treasury Bills Issued by GOI, sold at discount Very liquid and marketable
And 364 days
Offers interest higher then the Liquid, penal interest charged
Fixed Deposits 15 days to 5 years
Treasury bills on premature cancellation
Large value, issued by banks at
Certificate of Deposits (CD) 7 to 365 days Fairly Liquid
discount
Unsecured debt issued by
Commercial Paper (CP) 7 to 365 days Secondry market is not liquid
companies
Inter Corporate Deposits mad by one firm with
90 to 180 days Illiquid
Deposits (ICD) another.
Mutual funds investing in liquid, No minimum
Money Market Mutual Funds Liquid
Short-term securities period
Put your queries on www.financeclubb.com 19