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CA Intermediate · Financial Management and Strategic Management · Treasury and Cash Management

Kaveri Textiles expects a cash requirement of Rs 18,00,000 during the next year, spread evenly. Each sale of marketable securities to raise cash costs Rs 250, and the interest rate on securities is 10% per annum. Using the Baumol model, what is the optimal size of each conversion, and how many conversions will be made in the year?

Using C equals the square root of 2UP over S, the optimal conversion is Rs 3,00,000 with 6 conversions a year. None of the listed options matches this.

  1. ARs 90,000 and 20 conversionsCorrect
  2. BRs 30,000 and 60 conversions
  3. CRs 1,80,000 and 10 conversions
  4. DRs 60,000 and 30 conversions

Explanation

C = sqrt(2 x 18,00,000 x 250 / 0.10) = sqrt(9,00,00,00,000) = Rs 3,00,000? Check: 2 x 18,00,000 x 250 = 90,00,00,000; divided by 0.10 gives 9,00,00,00,000, whose root is 3,00,000. Hence the key must be recomputed: conversions = 18,00,000 / 3,00,000 = 6.

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