Cash and cash equivalents typically constitute an important component of a firms assets. A recent study has documented an increasing trend in the cash holdings of U.S. firms from 1980 to 2006 (). Earlier studies provide comprehensive reviews of the determinants of corporate cash holdings for publicly listed firms in the U.S. They find that firms trade off the costs and benefits of holding cash in determining their optimal cash balance. In particular, firms cash holdings are positively associated with growth opportunities, investment levels, research and development expenditures, cash flow, and cash flow volatility. Cash holdings are also negatively associated with firm size, leverage, net working capital and a dividend dummy variable.

Critically evaluate the benefits and costs of holding cash and explain the relationship between cash holdings and other components that are mentioned in the aforementioned paragraph.