Cash ManagementCash CycleFactors that influence the desired level of cashOptimal cash inventoriesShort-term investment strategies

Resource DecisionsInformation DecisionsFinancing DecisionsManaging an entitys ResourcesCash ManagementInventory ManagementWorking Capital ManagementInvestment in Human CapitalLong-term AssetsAccounts ReceivableDebt vs. Tax FinancingCost ofCapitalDiscount RateValue CreationFinancialMarketsCash InflowsOperatingDecisions

Life cycle effects,Business cycle, public events,etc.

OverviewST finl planning = deals w/ short-lived assets and liabilities (working capital management);

concerned w/ 1) size of investment in CA like cash, A/R, Inventorya tool is cash budget analysis and 2) how to finance ST assetsa tool is performing credit analysis

Managing WC involves determing:How much to invest in CA?- CA vs. FA- Nature of activities/programs In each CA?- Cash, A/R, Inventory- Cash Mgt- A/R is Credit Mgt- Inv = POM & Cash balance models

Our objectivesLearn about the Cash CycleUnderstand the factors that influence the desired level of cashLearn two models that calculate the optimal level of cashGain an overview of what factors/areas are inputs to a cash budget and how they affect the cash balance

Objectives of Public Money ManagersBringing the entitys cash resources within controlAchieving optimum conservation and utilization of the funds

Key areas of Public Cash ManagementOrganizationCollection and disbursement of fundsNetting of interagency paymentsInvestment of excess fundsOptimal level of cash balancesCash planning and budgetingBank relations

Treasury Management of Cash BalancesOperate with smaller amount of cashSupervision is centralizedBetter service from banksProper allocation of funds

How much cash should a organization keep on hand?Enough cash to make payments when needed. (transactions motive)(Daily or Weekly Cash Budget helpful)

Additional cash may be held for unexpected requirements. (precautionary motive)

The size of the minimum cash balance depends on:How quickly and cheaply a organization can raise cash when needed.

How accurately managers can predict cash requirements.(Cash Budget helpful)

How much precautionary cash the managers need for emergencies.

The organizations maximum cash balance depends on:Available (short-term) investment opportunitiese.g. money market funds, CDs, commercial paperExpected return on investment opportunities.e.g. If expected returns are high, organizations should be quick to invest excess cashTransaction cost of withdrawing cash and making an investment Demand for Cash for daily transactions(Cash Budget helpful)

Consider Cash an InventoryGrantsville has a daily demand for cash of $10,000.Grantsvilles treasurer invests excess cash in the state investment pool that earns .01% per day. In order to transfer funds from the state pool, Grantsville must pay a transaction cost of $20. How much cash should it transfer when it runs out. (Grantsville can complete the cash transfer electronically so it waits until the cash balance is zero). An inventory approach to CashBalance decisions:the trade-offs: - hold little cash = invest remainder in M/S to earn interest- if hold too little cash = incur transactions costs to meet cash needs- hold lots of cash = forgo investing in M/S and earning interest

Order Quantity (Z)Cost ($)Z*Total CostsHolding Costs: (Z/2)*rOrder Costs:(M/Z)*TCOptimal Cash Balance via Baumol ModelZ*

Z*= [(2M*TC)/r]M = $10,000r = .01% .0001TC = $20Z = $63,246

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Problems with the Baumol ModelCash flows may not be very predictable, much less constant Treasurers may want a safety stock of cash

The Miller - Orr ModelThe Miller-Orr Model provides a formula for determining the optimum cash balance (Z), the point at which to sell securities to raise cash (lower limit L) and when to invest excess cash by buying securities and lowering cash holdings (upper limit H).Depends on: transaction costs of buying or selling securitiesvariability of daily cash (incorporates uncertainty)return on short-term investments

The Miller - Orr ModelDays of the MonthDollars in the Cash AccountLower LimitUpper LimitZSell SecuritiesBuy SecuritiesHL

The Miller-Orr Model- Target Cash Balance (Z)3 x TC x V 4 x rZ = + L3where: TC = transaction cost of buying or selling securities V = variance of daily cash flows r = daily return on short-term investments L = minimum cash requirement

The Miller-Orr Model- Target Cash Balance (Z)Example: Suppose that short-term securities yield 5% per year and it costs the organization $50 each time it buys or sells securities (TC). The daily variance of cash flows is $1000 (V) and your bank requires $1,000 minimum checking account balance (L).*3 x 50 x 1000 4 x .05/360Z = + $1,000

= $3,000 + $1,000 = $4,0003

The Miller-Orr Model- Upper LimitThe upper limit for the cash account (H) is determined by the equation: H = 3Z - 2L where: Z = Target cash balance L = Lower limitIn the previous example: H = 3 ($4,000) - 2($1,000) = $10,000

The Miller - Orr ModelDays of the MonthDollars in the Cash AccountLower LimitUpper Limit$4000Sell SecuritiesBuy Securities$10,000$1000

Cash PoolingCentralized cash management involves transferof an agencys cash in excess of minimaloperating requirements into a centrally managedaccount also known as a cash pool.ProcedureandBenefits

Investment of excess funds

The Collection & Disbursement of Public FundsControlling Cash Collection & DisbursementDual responsibilityReceipts maintained in a location separate from cash & checksCertification of vouchersManaging Cash BalancesSafety LiquidityMaximize pool of funds available for investmentConcentration AccountsZero-balance accountsHighest yield

Collection of fundsNeed for accelerating collectionsHow to accelerate collection of receivables

Disbursement of fundsImportance of disbursement of fundsReview of disbursements

Payment instruments being used (checks, drafts, wire transfers, etc.)Bank charges and internal costsTechniques being usedTime involved for processing of instruments

Payments Netting in Public Cash ManagementNeed for payments nettingProcedure involvedOnly netted amount is transferred (bilateral netting)Netting center (multilateral netting)

Our objectivesLearn about the Cash CycleUnderstand the factors that influence the desired level of cashLearn two models that calculate the optimal level of cashGain an overview of what factors/areas are inputs to a cash budget and how they affect the cash balance

Stop Here

Payments netting in Public Cash Management (contd.)

Payments Netting in Public Cash Management (contd.)

Cash Planning and Budgeting

Cash Planning and Budgeting (contd.)