CS Executive · Corporate Accounting and Financial Management · Working Capital Management
In the Baumol model of cash management, which pair of costs does the firm balance to arrive at the optimal size of each cash conversion (securities sale)?
The Baumol model balances the transaction cost of converting securities into cash against the opportunity cost of holding idle cash. The optimal conversion size is where the total of these two costs is lowest, just as the EOQ model balances ordering and carrying costs.
- ATransaction (conversion) cost and opportunity cost of holding cashCorrect
- BOrdering cost and stock-out cost
- CCost of debt and cost of equity
- DCarrying cost of inventory and cost of credit sales
Explanation
Baumol applies the EOQ logic to cash. Holding more cash raises the opportunity cost of forgone interest, while converting securities more often raises transaction costs. The optimal conversion size balances these two. Ordering and stock-out costs belong to inventory models, not to this balance.
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