CHAPTER 31

Cash Management
Answers to Practice Questions
1. a. Payment float = 5 $100,000 = $500,000
Availability float = 3 $150,000 = $450,000
Net float = $500,000 $450,000 = $50,000
b. Reducing te availability float to one day mean! a gain of"
# $150,000 = $300,000
At an annual $ate of %&, te annual !aving! 'ill be"
0.0% $300,000 = $1(,000
)e *$e!ent value of te!e !aving! i! te initial gain of $300,000. +,$, if
you *$efe$, it i! te *$e!ent value of a *e$*etuity of $1(,000 *e$ yea$ at an
inte$e!t $ate of %& *e$ yea$, 'ic i! $300,000.-
#. a. .edge$ balance = !ta$ting balance *ayment! / de*o!it!
.edge$ balance = $#50,000 $#0,000 $%0,000 / $45,000 = $#15,000
b. )e *ayment float i! te out!tanding total of +unca!ed- cec0! '$itten by te
fi$m, 'ic e1ual! $%0,000.
c. )e net float i!" $%0,000 2 $45,000 = $15,000
3. a. 3nob collect! $1(0 million *e$ yea$, o$ +a!!uming 3%0 day! *e$ yea$- $0.5 million
*e$ day. 4f te float i! $educed by t$ee day!, ten 3nob gain! by
inc$ea!ing ave$age balance! by $1.5 million.
b. )e line of c$edit can be $educed by $1.5 million, fo$ !aving! *e$ yea$ of"
1,500,000 0.1# = $1(0,000
c. )e co!t of te old !y!tem i! $40,000 *lu! te o**o$tunity co!t of te e5t$a
float $e1ui$ed +$1(0,000-, o$ $##0,000 *e$ yea$. )e co!t of te ne'
!y!tem i! $100,000. )e$efo$e, 3nob 'ill !ave $1#0,000 *e$ yea$ by
!'itcing to te ne' !y!tem.
4. 6ecau!e te ban0 can fo$eca!t ea$ly in te day o' muc money 'ill be *aid out,
te com*any doe! not need to 0ee* e5t$a ca! in te account to cove$
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contingencie!. Al!o, !ince 7e$o2balance account! a$e not eld in a ma8o$
ban0ing cente$, te com*any gain! !eve$al day! of additional float.
5. )e co!t of a 'i$e t$an!fe$ i! $10, and te ca! i! available te !ame day. )e co!t
of a cec0 i! $0.(0 *lu! te lo!! of inte$e!t fo$ t$ee day!, o$"
0.(0 / 90.1# +3:3%5- +amount t$an!fe$$ed-;
<etting ti! e1ual to $10 and !olving, 'e find te minimum amount t$an!fe$$ed i!
$=,3#(.
%. a. )e loc02bo5 'ill collect an ave$age of +$300,000:30- = $10,000 *e$ day. )e
money 'ill be available t$ee day! ea$lie$ !o ti! 'ill inc$ea!e te ca!
available to >A? by $30,000. )u!, >A? 'ill be bette$ off acce*ting te
com*en!ating balance offe$. )e co!t i! $#0,000, but te benefit i!
$30,000.
b. .et 5 e1ual te ave$age cec0 !i7e fo$ b$ea02even. )en, te numbe$ of
cec0! '$itten *e$ mont i! +300,000:5- and te montly co!t of te loc02
bo5 i!"
+300,000:5- +0.10-
)e alte$native i! te com*en!ating balance of $#0,000. )e montly
co!t i! te lo!t inte$e!t, 'ic i! e1ual to"
+#0,000- +0.0%:1#-
)e!e co!t! a$e e1ual if 5 = $300. )u!, if te ave$age cec0 !i7e i!
g$eate$ tan $300, *aying *e$ cec0 i! le!! co!tly@ if te ave$age cec0
!i7e i! le!! tan $300, te com*en!ating balance a$$angement i! le!!
co!tly.
c. 4n *a$t +a-, 'e com*a$e available dolla$ balance!" te amount made
available to >A? com*a$ed to te amount $e1ui$ed fo$ te com*en!ating
balance. 4n *a$t +b-, one co!t i! com*a$ed to anote$. )e inte$e!t
fo$egone by olding te com*en!ating balance i! com*a$ed to te co!t of
*$oce!!ing cec0!, and !o e$e 'e need to 0no' te inte$e!t $ate.
A. a. 4n te #(2mont *e$iod encom*a!!ing <e*tembe$ 1=A% t$oug Becembe$ 1=A(,
te$e a$e (5# day! +3%5 / 3%5 / 30 / 31 /30 / 31-. )u!, *e$ day, Ce$$ill
.ync di!bu$!ed"
$1,#50,000,000:(5# = $1,4%A,000
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b. Remote di!bu$!ement delayed te *ayment of"
1.5 $1,4%A,000 = $#,#00,500
)at i!, $emote di!bu$!ement !ifted te !t$eam of *ayment! bac0 by 1D
day!. At an annual inte$e!t $ate of (&, te *$e!ent value of te gain to
Ce$$ill .ync 'a!"
PE = 9#,#00,500 +1.0(
+#(:1#-
1-;:91.0(
+#(:1#-
; = $3%1,A0(
c. 4f te benefit! a$e *e$manent, te net benefit i! te immediate ca! flo' of
$#,#00,500
d. )e gain *e$ day to Ce$$ill .ync 'a!"
1,4%A,000 91.0(
+1.5:3%5-
2 1; = $4%4
Ce$$ill .ync '$ite! +3%5,000:(5#; = 4#(.4 cec0! *e$ day )e$efo$e,
Ce$$ill .ync 'ould ave been 8u!tified in incu$$ing e5t$a co!t! of no mo$e
tan +4%4:4#(.4- = $1.0(3 *e$ cec0.
(. Fi$m! may coo!e to *ay by cec0 becau!e of te float available. Gi$e t$an!fe$! do
not gene$ate float. Al!o, te *ayee may not be a *a$t of te Automated
?lea$ingou!e !y!tem.
=. a. An inc$ea!e in inte$e!t $ate! !ould dec$ea!e ca! balance!, becau!e an
inc$ea!ed inte$e!t $ate im*lie! a ige$ o**o$tunity co!t of olding ca!.
b. A dec$ea!e in volatility of daily ca! flo' !ould dec$ea!e ca! balance!.
c. An inc$ea!e in t$an!action co!t! !ould inc$ea!e ca! balance! and
dec$ea!e te numbe$ of t$an!action!.
10. )e *$oblem e$e i! a !t$aigtfo$'a$d a**lication of te 6aumol model. )e o*timal
amount to t$an!fe$ i!"
H = 9+# 100,000 10-:+0.01-;
1:#
= $14,14#
)i! im*lie! tat te ave$age numbe$ of t$an!fe$! *e$ mont i!"
100,000:14,14# = A.0A
)i! $e*$e!ent! a**$o5imately one t$an!fe$ eve$y fou$ day!.
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11. Git an inc$ea!e in inflation, te $ate of inte$e!t al!o inc$ea!e!, 'ic inc$ea!e! te
o**o$tunity co!t of olding ca!. )i! by it!elf 'ill dec$ea!e ca! balance!.
Io'eve$, !ale! +mea!u$ed in nominal dolla$!- al!o inc$ea!e. )i! 'ill inc$ea!e
ca! balance!. ,ve$all, te fi$mJ! ca! balance! $elative to !ale! migt be
e5*ected to $emain e!!entially uncanged.
1#. a. )e ave$age ca! balance i! H:# 'e$e H i! given by te !1ua$e $oot of"
+# annual ca! di!bu$!ement! co!t *e$ !ale of )2bill!-:+annual inte$e!t $ate-
)u!, if inte$e!t $ate! double, ten H and, ence, te ave$age ca!
balance, 'ill be $educed to +1:#- = 0.A0A time! te *$eviou! ca!
balance. 4n ote$ 'o$d!, te ave$age ca! balance dec$ea!e! by
a**$o5imately 30 *e$cent.
b. 4f te inte$e!t $ate i! doubled, but all ote$ facto$! $emain te !ame, te
gain f$om o*e$ating te loc02bo5 al!o double!. 4n ti! ca!e, te gain
inc$ea!e! f$om $A# to $144.
13. P$ice of t$ee2mont )$ea!u$y bill = $100 +3:1# 10- = $=A.50
Kield = +100:=A.50-
4
1 = 0.10%% = 10.%%&
P$ice of !i52mont )$ea!u$y bill = $100 +%:1# 10- = $=5.00
Kield = +100:=5.00-
#
1 = 0.10(0 = 10.(0&
)e$efo$e, te !i52mont )$ea!u$y bill offe$! te ige$ yield.
14. )e annually com*ounded yield of 5.1=& i! e1uivalent to a five2mont yield of"
1.051=
+5:1#-
1 = 0.0#130% = #.130%&
)e *$ice +P- mu!t !ati!fy te follo'ing"
+100:P- 1 = 0.0#130%
)e$efo$e" P = $=A.=13(
)e $etu$n fo$ te mont i!"
+$=A.=13(:$=A.50- 1 = 0.004#44
)e annually com*ounded yield i!"
1.004#44
1#
1 = 0.05#1 = 5.#1& +o$ a**$o5imately 5.1=&-
4%
15. 9Note" 4n te fi$!t *$inting of te !event edition, te !econd !entence of ti! P$actice
Hue!tion i! inco$$ect@ it !ould $ead" L<u**o!e anote$ mont a! *a!!ed, !o te
bill a! only four months left to $un.M;
P$ice of te fou$2mont bill i!" $100 +4:1#- $5 = $=(.33
Retu$n ove$ fou$ mont! i!" +$100:$=(.33- 1 = 0.01%=( = 1.%=(&
Kield +on a !im*le inte$e!t ba!i!- i!" 0.01%=( 3 = 0.050=4 = 5.0=4&
Reali7ed $etu$n ove$ t'o mont! i!" +$=(.33:$=A.50- 1 = 0.00(5 = 0.(5&
1%. An!'e$! e$e 'ill va$y de*ending on 'en te *$oblem i! a!!igned.
1A. .et N = te inve!to$J! ma$ginal ta5 $ate. )en, te inve!to$J! afte$2ta5 $etu$n i! te
!ame fo$ ta5able and ta52e5em*t !ecu$itie!, !o tat"
0.05(= +1 N- = 0.03==
<olving, 'e find tat N = 0.3##% = 3#.#%&, !o tat te inve!to$J! ma$ginal ta5
$ate i! 3#.#%&.
Nume$ou! ote$ facto$! migt affect an inve!to$J! coice bet'een te t'o ty*e!
of !ecu$itie!, including te !ecu$itie!J $e!*ective matu$itie!, default $i!0, cou*on
$ate!, and o*tion! +!uc a! call o*tion!, *ut o*tion!, conve$tibility-.
1(. 4f te 4R< did not *$oibit !uc activity, ten co$*o$ate bo$$o'e$! 'ould bo$$o' at an
effective afte$2ta5 $ate e1ual to 9+1 ta5 $ate- +$ate on co$*o$ate debt-;, in o$de$
to inve!t in ta52e5em*t !ecu$itie! if ti! afte$2ta5 bo$$o'ing $ate i! le!! tan te
yield on ta52e5em*t!. )i! 'ould *$ovide an o**o$tunity fo$ $i!02f$ee *$ofit!.
1=. Fo$ te individual *aying 3=.1 *e$cent ta5 on income, te e5*ected afte$2ta5 yield!
a$e"
a. ,n munici*al note" %.5&
b. ,n )$ea!u$y bill" 0.10 +1 0.3=1- = 0.0%0= = %.0=&
c. ,n floating2$ate *$efe$$ed" 0.0A5 +1 0.3=1- = 0.045A = 4.5A&
Fo$ a co$*o$ation *aying 35 *e$cent ta5 on income, te e5*ected afte$2ta5
yield! a$e"
a. ,n munici*al note" %.5&
b. ,n )$ea!u$y bill" 0.10 +1 0.35- = 0.0%5 = %.50&
c. ,n floating2$ate *$efe$$ed +a co$*o$ate inve!to$ e5clude! f$om ta5able income
A0& of dividend! *aid by anote$ co$*o$ation-"
)a5 = 0.0A5 +1 2 0.A0- 0.35 = 0.00A(A5
Afte$2ta5 $etu$n = 0.0A5 0.00A(A5 = 0.0%A1#5 = %.A1#5&
4A
)'o im*o$tant facto$! to con!ide$, ote$ tan te afte$ ta5 yield!, a$e te c$edit
$i!0 of te i!!ue$ and te effect of inte$e!t $ate cange! on long2te$m !ecu$itie!.
#0. )e limit! on te dividend $ate inc$ea!e te *$ice va$iability of te floating2$ate
*$efe$$ed!. Gen ma$0et $ate! move *a!t te limit!, !o tat fu$te$ ad8u!tment!
in $ate! a$e not *o!!ible, ma$0et *$ice! of te !ecu$itie! mu!t ad8u!t !o tat te
dividend $ate! can ad8u!t to ma$0et $ate!. ?om*anie! include te limit! in o$de$
to $educe va$iability in co$*o$ate ca! flo'!.
4(
Challenge Questions
1. ?o$*o$ation! e5clude f$om ta5able income A0& of dividend! *aid by anote$
co$*o$ation. )e$efo$e, fo$ a co$*o$ation *aying a 35& income ta5 $ate, te
effective ta5 $ate fo$ a co$*o$ate inve!to$ in *$efe$$ed !toc0 i! 10.5&, a! !o'n in
<ection 31.5 of te te5t. )e$efo$e, if $i!0 'e$e not an i!!ue, te yield on
*$efe$$ed! !ould be e1ual to 9+1 0.35-:0.(=5; = 0.A#% = A#.%& of te yield on
)$ea!u$y bill!. ,f cou$!e ti! i! a lo'e$ limit becau!e *$efe$$ed! a$e bot $i!0ie$
and le!! li1uid tan )$ea!u$y bill!.
4=