What are the motives of a company behind holding the cash?
Following are the motives of a company behind holding the cash:
Transaction Motive : Requirement of cash to meet day to day needs is known as transaction motive. For example: On day to day basis the company is required to make regular payments like purchases, salaries/wages, taxes, interest, dividends etc. for which company will hold the cash. Similarly, company receives cash from its sale operations. However, sometimes receipts of the cash and the cash payments do not match with each other; in such situations the company should have enough cash to honour the commitments whenever they are due.
Precautionary Motive : Holding up of cash balance in order to take care of contingencies and unforeseen circumstances is known as precautionary motive. In addition to requirement of cash for regular transactions, the company may require the cash for such purposes which cannot be estimated or foreseen. For example: Sudden decline in the collection from the customers or sharp increase in the prices of raw materials may put the company in such a situation where they need additional funds to deal with such situation without affecting its regular business.
Speculative Motive: Holding up of some reserve in the form of cash to take the benefit of some specific nature of favorable market conditions is known speculative motive. For example: If the company presumes that in near future prices of raw material is going to be low, then it will preserve that cash for future purchase of raw material. In another case if interest rates are expected to increase then the company will purchase securities from the reserved cash.