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Working Capital Management




                    Notes          9.5.1 Holding a Stock of Extra Cash
                                   We refer here to a stock of cash kept by the firm beyond that needed for transactions. Cash is the
                                   most flexible but the most costly hedge available to the firm. It is the most flexible in that it can
                                   hedge a shortage in any circumstances, at any time, with no transaction costs. If the firm holds a
                                   stock of extra the temporary investment. Interest rate futures and options can also be used to
                                   hedge interest rate risks that do not arise as the result of uncertainties in the firm’s cash flow, but
                                   instead occur solely because of changing interest rates between the time of the forecast and the
                                   planned investment of financing.

                                   Illustration 1: Global Recreation Centers is attempting to forecast cash receipts from its Eastern
                                   Division. Cash is deposited into two field banks on a daily basis. The cash manager has found
                                   that deposits follow a fairly strong day-of-week pattern. She used historical data to determine
                                   the fraction of each week’s total revenues deposited by day-of-week by district. Combined with
                                   weekly revenue estimates the fractions help her estimate daily deposits from Eastern Division.
                                   The parameters obtained from the past 3 months’ deposit data follow:

                                           Day of Week        District 1 using Deposit Bank 1   District 2 using Deposit Bank 2
                                             Monday                    36.0  %                  31.0%
                                             Tuesday                    13.0                     15.0
                                           Wednesday                    17.0                     17.0
                                            Thursday                    15.0                     20.0
                                             Friday                     19.0                     17.0
                                                                       100.0%                   100.0%
                                   Weekly revenue estimates from the sales department were also obtained:

                                           Day of Week                District 1               District 2
                                             Week 1                   ` 68,000                 ` 52,000
                                             Week 2                   ` 39,000                 ` 44,000
                                   Solution:
                                   To forecast daily deposits into each bank, we simply multiply the weekly revenue by the day-of-
                                   week percentage and sum across the two districts.

                                                                     Table 9.1

                                                                                                       Total
                                                  District 1 (Bank 1)          District 2 (Bank 2)
                                                                                                       Daily
                                    Day    Fraction  TOT/Week  Daily     Fraction  TOT/Week   Daily  Deposit
                                    Mon        36.0    ` 68,000   ` 24,480   31.0%    ` 39,000  ` 12,090   ` 36,570
                                    Tue        13.0      68,000     8,840     15.0     39,000   5,850   14,690
                                    Wed        17.0      68,000    11,560     17.0     39,000   6,630   18,190
                                    Thu        15.0      68,000    10,200     20.0     39,000   7,800   18,000
                                    Fri        19.0      68,000    12,920     17.0     39,000   6,630   19,550
                                    Mon        36.0      52,000    18,720     31.0     44,000   13,640   32,360
                                    Tue        13.0      52,000     6,760     15.0     44,000   6,600   13,360
                                    Wed        17.0      52,000     8,840     17.0     44,000   7,480   16,320
                                    Thu        15.0      52,000     7,800     20.0     44,000   8,800   16,600
                                    Fri        19.0      52,000     9,880     17.0     44,000   7,480   17,360
                                    Total             ` 1,20,000   ` 1,20,000         ` 83,000  ` 83,000  ` 2,03,000





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