Question 3 (a)
Motives for holding cash
5 marks
- Time to write
- About 10 minutes
From an older CBCS paper
Question
Question 3 (a) · 5 marksWhat are the main motives for holding cash?
Reworded from the university paper; the task is the same. The original paper belongs to the University of Delhi. See DU's question bank.
Before you write
Read off the question and its marks
Read from the question
- What areThe meaning first, then the main points.
What the paper leaves open
The question is partly within the current syllabus; the answer keeps to liquidity and the motives.
Write it in this order
- Read; underline the asks; jot your points 1 min
- 1 Transaction motive 2 marks 3 min
- 2 Precautionary motive 1½ marks 2 min
- 3 Speculative motive 1½ marks 2 min
- Check: every ask answered, key terms underlined 2 min
Short on time? Trim steps 1–3 evenly rather than skip one: each is capped at its own marks.
Try it first. About 10 minutes for 5 marks. Write it out, then open the solution.
Solution
Hover or tap a marked figure, like 72,000, to see how it is made and where else it appears.
A firm holds cash, the most liquid current asset, for three motives:
1. Transaction motive. Cash is needed for the day-to-day operations: to make purchases and to pay expenses, taxes and dividends. The need arises because receipts and payments are not perfectly synchronised; at times receipts exceed payments and at times the reverse. Transaction needs can be anticipated, because the payments due in the near future can be estimated. A shortfall may be met by a bank overdraft, and a surplus put into marketable securities.
2. Precautionary motive. Cash is kept to meet contingencies, because actual inflows and outflows vary from the estimates. For example, a debtor due to pay in 7 days may be unable to pay, or a supplier who used to give 15 days' credit may insist on cash. Receipts then fall short and payments rise. A firm should keep some cash for such contingencies, or be able to raise finance at short notice.
3. Speculative motive. Cash is held to take up profitable opportunities as and when they arise, such as buying shares or securities when their prices are low in the expectation of a rise. Such opportunities are irregular and cannot be predicted scientifically; only a firm with a cash balance can use them.
Balancing the motives. Cash earns little or nothing, so cash management aims to meet the outflows these motives call for while keeping the cost of holding cash as low as possible.
Where the 5 marks sit
| # | Component | Marks |
|---|---|---|
| 1 | Transaction motive | 2 |
| 2 | Precautionary motive | 1.5 |
| 3 | Speculative motive | 1.5 |
| Total | 5 |
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