Question 17.1: Estimating the Value of a Float Reduction Suppose that we wa...
Estimating the Value of a Float Reduction
Suppose that we want to estimate the value of a 1-day float reduction for Starbucks Corporation (SBUX). Starbucks’ 2014 sales revenues were reported at $16.448 billion. Let’s assume that prudent investment in money-market securities will earn 4 percent annually. We ask, what is the estimated value of a 1-day float reduction to Starbucks?
STEP 1: Formulate a Solution Strategy
a. Annual revenues/days in year = 1-day float reduction
b. 1-day float reduction × assumed yield = annual (before-tax) value of the float reduction
STEP 2: Crunch the Numbers
For Starbucks in 2014:
a. $16.448 billion/365 days = $45,062,466/day
b. $45,062,466/day × 0.04 = $1,802,499
STEP 3: Analyze Your Results
Thus, 1 day’s freed-up balances for Starbucks will be $45,062,466. Then we find the annual (before-tax) value of the float reduction is $1,802,499. Profits like these make it worthwhile for the firm and its treasury manager to closely evaluate the cash management services offered by commercial banks—even when the bank fees can also be quite costly. We learn how to make decisions of this nature later in the chapter.