A firm holds cash to conduct transactions and to compensate banks for the various services they render.
The optimal amount of cash for a firm to hold depends on the opportunity cost of holding cash and the uncertainty of future cash inflows and outflows. The Baumol model and the Miller–Orr model are two transaction models that provide rough guidelines for determining the optimal cash position.
The firm can use a variety of procedures to manage the collection and disbursement of cash to speed up the collection of cash and slow down payments. Some methods to speed collection are lockboxes, concentration banking, and wire transfers. The financial manager must always work with collected company cash balances and not with the company's book balance. To do otherwise is to use the bank's cash without the bank knowing it, raising ethical and legal questions.
Because of seasonal and cyclical activities, to help finance planned expenditures, or as a reserve for unanticipated needs, firms temporarily find themselves with cash surpluses. The money market offers a variety of possible vehicles for parking this idle cash.
