Question

Veggie Burgers, Inc., would like to maintain its cash account at a minimum level of $251,000 but expects the standard deviation in net daily cash flows to be $12,600, the effective annual rate on marketable securities to be 4.3 percent per year, and the trading cost per sale or purchase of marketable securities to be $30.50 per transaction. What will be its optimal upper cash limit? (Use 365 days a year. Do not round intermediate calculations and round your final answer to 2 decimal places.)

Answer 1

Optimal cash level ( Miller - Orr model) = cube root ( 3FV / 4r) + M

F = Fixed cost = 30.50 per transaction

V = Daily cash variance = (12600)²

r = Daily Interest rate = 0.043/365

M = Minimum cash balance = 251,000

Optimal cash level = Cube root of ( 3 * 30.50 * (12600)² / 4 * 0.043 / 365 + 251000

= 31355.15 + 251000 = 282355.15

The question requires calculation of Upper cash limit

= 3 * ( Optimum cash balance ) - 2 * ( minimum cash balance)

= (3 * 282355.15 ) - 2 * ( 251000) = 847065.45 - 502000 = 345065.45 ......... final answer