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2. Keynes has taken the transaction and precautionary demands for money together, as they both are income determined. The Precautionary Motive; and . Lets explain the motives for holding money. Another reason firms may hold cash is the precautionary motive. This is called as precautionary motive of holding cash balance. The unexpected cash needs at short notice may be the result of: Floods, strikes and failure of important customers; Bills may be presented for settlement earlier than expected; Unexpected slow down in collection of accounts receivable; … Motives for Holding: Cash There are some motives for holding cash. 1. To enable a company to meet the cash demands from the normal flow of business activity. Contrary to the precautionary savings motive, risky security investments are concentrated in firms traditionally thought to have a high demand for precautionary savings such as firms in the technology or health industries, firms with volatile cash flows, or firms with high Tobin’s Q. If cash flows can be predicted with accuracy, less cash will be maintained against an emergency. To enable a company to meet the cash demands from the normal flow of business activity. It is a key component of a company’s financial stability and solvency. Cash is necessary for funding operations but excess cash is a missed opportunity to earn interest. The precautionary motive theory for holding cash predicts that firms hoard internal funds to finance possible future investment projects in order to avoid a possible shortage of external funds and to prevent sales and investment opportunity shocks. Precautionary motive – hold cash in case of emergencies What is needed to satisfy the speculative and precautionary motives is an ability to pay quickly – a need that is met with liquidity. Cash buffers created by firms faced with stricter EPLs help them mitigate the underinvestment problem in subsequent episodes of industry-wide distress. Although cash is the most liquid asset, assets such as marketable securities are near substitutes for cash. However, crisis periods can severely affect firms' precautionary motive. 1. Mulligan (1997) ar gues in favor of a transaction motive in which firms’ cash holdings are based on its activity, technological sophis tication, and opportunity costs. The precautionary motive is the need to hold cash to meet any contingencies in future. The transaction motive, thus, refers to the holding of cash to meet anticipated obligations whose timing is not perfectly synchronised with cash receipts. c. To enable a company to have cash to meet emergencies that may arise periodically. To enable a company to avail itself of a special inventory purchase before prices rise to higher levels. Hence choice letter d is correct 3 a precautionary School University of Phoenix; Course Title ACC 281; Type. T/F . Precautionary cash balance is also maintained to meet the non-routine needs. b. ADVERTISEMENTS: This type of demand for money is also determined by income and the general level of business activity. Which of the following is the least important? In addition to requirement of cash for regular transactions, the company may require the cash for such purposes which cannot be estimated or foreseen. Some hold cash to meet operating needs whereas others keep cash on hand to weather financial crises or take advantage of investment opportunities. a. The agency motive of cash holding predicts that managers tend to hold excess cash, which will destroy shareholder value. A firm may have to face emergencies such as strikes and lock-up from employees, increase in the cost of raw materials, funds and labour, fall in market demand and so on. According to Keynes, we hold money for three purposes: 1) Transaction motive: It is the amount of money held by us for everyday transactions, like paying for a cup of coffee, or to pay at a place where only cash is accepted. However, crisis periods can severely affect firms’ precautionary motive. Precautionary Motive : Holding up of cash balance in order to take care of contingencies and unforeseen circumstances is known as precautionary motive. The Speculative Motive. If an excess is taken in a business, it is harmful because it does not grow profit. c. To enable a company to have cash to meet emergencies that may arise periodically. cash simply for daily transactions. There are numerous options to invest cash in short-term financial instruments. Cash management means optimal cash maintain in a business. Peoples hold money/ cash for the three (3) following reasons or motives. In a narrow sense, it is broadly to cover currency and ge Both motives are based on a very similar principle but while the ‘income-motive’ deals with an individual’s cash holding behaviour, the ‘business-motive’ describes an enterprise’s motives. Under transaction motive, holding of money is very convenient and value of money, in terms of other goods, is relatively certain. There are two main reasons why firms find it beneficial to hold cash: precautionary motive and repatriation taxes.2 The first motive is very simple: Firms hold cash and equivalent liquid assets because they provide the flexibility that firms need in their transactions. ADVERTISEMENTS: These motives are discussed as follows: 1. Dittmar, Mahrt‐Smith, and Servaes (2003) find cross‐country evidence suggesting that firms hold more cash in countries with greater agency problems. As long as individuals and business firms have an easy access to ready cash, the precautionary motive to hold money will be relatively weak. The precautionary motive theory for holding cash predicts that firms hoard internal funds to finance possible future investment projects in order to avoid a possible shortage of external funds and to prevent sales and investment oppor-tunity shocks. Two factors interact directly with this proposed explanation: uncertainty and credit constraints. Consistent with this precautionary motive, the market's valuation of excess cash is positively associated with the EPL strictness. b. Some firms hold cash in excess than transaction and precautionary needs to involve in speculation. To enable a company to meet the cash demands from the normal flow of business activity. To enable a company to avail itself of a special inventory purchase before prices rise to higher levels. Precautionary motive refers to hold cash as a safety margin to act as a financial reserve. A precautionary motive for holding excess cash is . A firm should maintain larger cash balance than required for day to day transactions in order to avoid any unforeseen situation arising because of insufficient cash. Speculative Motive. Uploaded By amitydauntless. Both papers argue that there are economies of scale in cash holdings. If the argument above is true, financing frictions and accumulation of cash should not only be positively related but also its variation across firms should be associated with differences in expected financing frictions. Academic research found that these transaction and precautionary motives predominate at lower levels of cash, and so an increase in cash levels is … In case of transaction motive, money is held for ordinary transactions, while under precautionary motive, cash is kept to meet unforeseen transactions. 3. The Transactions Motive; 2. In the case of precautionary motives, a company will hold cash to meet unexpected contingencies. Hence choice letter d is correct 3 A precautionary motive for holding excess. The desire to keep extra money in case an unforeseen situation requires a capital outlay.For example, one may wish to save extra money to pay for medical bills in case of an accident. A high fluctuation in cash flows and prevailing uncertainty in the market lead the firms to hold excess cash in their portfolio holdings which explains the precautionary motives of a firm; however, Jenson (1986) associated agency cost with holding too much cash. This requires companies to carry cash balances as a precautionary motive. Motives for Holding Cash: Keynes has identified three motives for holding cash: ADVERTISEMENTS: 1. Motives for Holding Cash: The firm’s needs for cash may be attributed to the following needs: Transactions motive, Precautionary motive and Speculative motive. The precautionary motive for holding cash thus arises when firms have limited financing or hedging opportunities due to imperfect capital and insurance markets. Give examples of the advantages + disadvantages of holding cash. Firms hold cash to meet uncertainties, emergencies, running out of cash and fluctuations in cash balances. A precautionary motive for holding excess cash is a. However, under precautionary motive, holding of money depends on the degree of uncertainty i.e. MOTIVES FOR HOLDING CASH Homework Help, MOTIVES FOR HOLDING CASH Finance Assignment, MOTIVES FOR HOLDING CASH Finance Homework and Project of financial management MOTIVES FOR HOLDING CASH The term 'cash' with reference to cash management is used in two senses. The speculative motive refers to the need to hold cash in order to be able to take advantage of bargain purchases that might arise, attractive interest rates and favorable exchange rate fluctuations. These discretionary cash holdings are typically estimated as the excess cash holdings derived from models controlling for the transaction and precautionary motives for holding cash. b. A precautionary motive for holding excess cash is a. When a corporation designs an investment strategy for investing temporary excess cash balances in marketable securities, it must consider a variety of factors. To enable a company to avail itself of a special inventory purchase before prices rise to higher levels. The precautionary amount of cash to be kept depends upon the predictability of cash flows. According to John Maynard Keynes, people keep savings accounts, as well as some stocks and commodities, with a precautionary motive in order to cover unexpected events. Generally, cash required for precautionary motive is held in the form of short-term securities with the objective to earn atleast some positive return. Contrary if the cash is taken deficit position them the liquidity crises exists. Withdrawing excess-cash can be in fact costly for the insider because it sends a signal to the outsiders of her limited commitment or, worse, insider information about poor firm prospects. It provides a cushion or buffer to withstand some unexpected emergency. In the first part of this paper, we will begin by looking at the extent of cash holdings at publicly traded firms and some of the motives for the cash accumulation. Idle cash. Precautionary Motive Apart from the non-synchronization of anticipated cash flows in the ordinary course of business, the firm may require cash for the payment of unexpected disbursements. In the terminology of Mayer (2013), accumulation of cash … In line with this view, Dittmar et al. (2003) show that firms in countries with poor shareholder protection hold more cash than those in countries with good shareholder protection. The precautionary motive for holding cash is based on the need to maintain sufficient cash to act as a cushion or buffer against unexpected events. Some people are of the view that a business requires cash only for the first two motives while others feel that speculative motive also remains. c. To enable a company to have cash to meet emergencies that may arise periodically. Motives for holding money: This includes keeping money in form of cash (at home under the mattress) or held as bank deposits. What Are Three Types Of Motives? Transaction Motive Peoples keep cash for the transaction motive. transaction cost and a precautionary motive for holding cash that have since been formalized. advantage: speculative motives, precautionary, disadvantage: transaction, trade-off, idle cash. Test Prep. For the purpose of this work, only the latter is of importance. 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