Optimal cash balance is that cash balance where the firm’s opportunity cost equals to transaction cost and the total cost are minimum. Determining the optimal cash balance is one among the most a crucial task in cash management area.

What is your cash balance?

Cash balance is the amount of money on hand. You get that by taking the previous month’s cash balance and adding this month’s cash flow to it — which means subtracting if the cash flow is negative. Having a negative cash flow every so often, for a month, isn’t a big problem.

Why do we need to maintain cash in its optimum balance?

Maintaining a minimum cash balance ensures that a company has sufficient funds in its banking or other accounts to pay all its bills when needed.

What is the formula to calculate optimum cash balance?

According to the EOQ model, optimum level of cash should be determined by balancing the carrying cost of holding cash (the interest foregone on marketable securities) against the fixed cost of transferring marketable securities to cash or vice-versa so as to minimize total costs.

How do you get your optimum cash balance?

What’s the formula for the optimum cash balance?

The formula for the optimum cash balance is as follows: C* = cT/k Where C* is the optimum cash balance, c is the cost per transaction, T is the total cash needed during the year and k is the opportunity cost of holding cash balance. The optimum cash balance will increase with increase in the per transaction cost and

How is the optimal level of cash determined?

Optimal level of cash can also be determined algebraically by using the following formula: B = Total amount of transaction demand for cash over the period of time involved. K = Cost of carrying the inventory of cash i.e., interest rate on marketable securities for the period.

Which is the best Baumol-Tobin cash balance?

Thus, the optimal cash balance of $346,410.16 meets the minimum sum of opportunity cost and transaction cost. To prove this, we compute the total cost for OCB and a cash balance of $250,000 and $450,000 using the total cost equation above. As we can see, the Baumol-Tobin model is always the best solution.

Which is the optimal interest rate for cash?

Suppose that you can invest spare cash in U.S. Treasury bills at an interest rate of 8 percent, but every sale of bills costs you $20. Your firm pays out cash at a rate of $105,000 per month, or $1,260,000 per year. Our formula for the initial cash balance tells us that the optimal amount of Treasury bills that you should sell at one time is