Deck 20: Working Capital Management

Question 1

What is the cash conversion cycle for a firm with a receivables period of 40 days, a payables period of 30 days, and an inventory period of 60 days?

A)10 days
B)50 days
C)70 days
D)130 days

Answer 1

70 days

Question 2

A firm's permanent working capital refers to the:

A)Difference between current assets and current liabilities
B)Minimum difference between current assets and current liabilities
C)Portion of net working capital that is financed from long-term sources
D)Amounts that must be held to meet debt covenants

Answer 2

Minimum difference between current assets and current liabilities

Question 3

What is the cash conversion cycle for a firm with $3 million average inventories, $1.5 million average accounts payable, a receivables period of 45 days, and an annual cost of goods sold of $18 million?

A)14.59 days
B)46.25 days
C)75.41 days
D)136.25 days Cash conversion cycle = inventory period + receivables period - accounts payable period
=

Answer 3

75.41 days

Question 4

When a firm finances long-term assets with short-term sources of funding, it:

A)Reduces the risk of cash shortage
B)Will have lower interest expense
C)Improves the leverage ratio
D)Is ignoring the principle of matched maturities

Question 5

Which of the following is more likely for a firm practicing the "relaxed" strategy of long- versus short-term borrowing at the height of sales demand?

A)It will borrow heavily on a short-term basis
B)It will invest heavily in marketable securities
C)It will borrow heavily on a long-term basis
D)Long-term financing will approximate capital requirements

Question 6

As a firm's cash conversion cycle increases, the firm:

A)Becomes less profitable
B)Increases its investment in working capital
C)Reduces its accounts payable period
D)Incurs more shortage costs

Question 7

What happens to a firm whose uses of cash exceed its sources of cash during an accounting period?

A)It borrows on a short-term basis
B)It declares a net loss on the income statement
C)It experiences an increase in cash balance
D)It experiences a decrease in cash balance

Question 8

When product demand is high, firms following a "middle of the road policy" for long- versus short-term financing will:

A)Borrow short-term
B)Borrow long-term
C)Hold marketable securities
D)Sell marketable securities

Question 9

Which of the following is correct for a firm that reduces its accounts receivable balance from the previous quarter?

A)Collections exceeded beginning receivables balance
B)Sales exceeded collections
C)Beginning receivables balance exceeded sales
D)Collections exceeded sales

Question 10

Which of the following would not be included among the costs of carrying inventory?

A)Obsolescence
B)Opportunity cost of capital
C)Raw material cost
D)Risk of pilferage

Question 11

Which of the following would act to reduce the carrying costs of inventory?

A)The inventory is capable of spoiling
B)The inventory will rapidly go out of style
C)General interest rates decrease in the economy
D)General interest rates increase in the economy

Question 12

The principle of "matched maturities" in finance refers to:

A)Finding sources of funds with the longest maturity, in order to avoid liquidity crises
B)Funding long-term assets with long-term sources, and vice versa
C)Using as much short-term financing as possible due to the lower cost of interest
D)Buying marketable securities when demand is high and borrowing short term when demand is low

Question 13

If managers could automatically change each term in the equation of the cash conversion cycle, which of the following would be expected to provide the most benefit?

A)Decrease numerator of each term by 10%
B)Decrease denominator of each term by 10%
C)Increase numerator of each term by 10%
D)Increase denominator of each term by 10%

Question 14

What was the sales volume in the current quarter if beginning accounts receivable, at $5,000, was $1,000 higher than ending, and $20,000 was collected?

A)$19,000
B)$20,000
C)$21,000
D)$24,000 Ending accounts receivable = Beginning accounts receivable + sales - collections
$4,000 = $5,000 + sales - $20,000

Question 15

The time interval between paying for raw materials and collecting on sales of finished goods is known as the:

A)Inventory cycle
B)Matching cycle
C)Cash conversion cycle
D)Accounts receivable cycle

Question 16

If a firm's current ratio exceeds 1.0, what happens as a result of paying cash to reduce accounts payable?

A)Net working capital increases
B)Net working capital decreases
C)Current ratio increases
D)Current ratio decreases

Question 17

Which of the following would not be considered a use of cash?

A)Dividends
B)Decreased accounts payable
C)Depreciation
D)Increased accounts receivable

Question 18

Which of the following statements about total capital requirement is least likely to be correct for a profitable firm?

A)Requirements remain constant over time
B)Seasonal variations are often experienced
C)The trend is often upward-sloping
D)A portion of working capital is permanent

Question 19

When financial managers take action to minimize the carrying costs of current assets, they:

A)Are likely to maximize profits
B)Also consider spoilage costs
C)May increase costs due to shortages
D)Engage in the matching of maturities

Question 20

Firms that continually invest in non-trivial amounts of marketable securities may be guilty of:

A)Excessive short-term borrowing
B)Not matching their sources and uses of cash
C)Incurring excessive shortage costs
D)Not maximizing shareholder returns

Question 21

The goal of managing working capital, such as inventory, should be to minimize the:

A)Costs of carrying inventory
B)Opportunity cost of capital
C)Aggregate of carrying and shortage costs
D)Amount of spoilage or pilferage

Question 22

The longer the firm's accounts payable period, the:

A)Longer the firm's cash conversion cycle
B)Shorter the firm's inventory period
C)More the delay in the accounts receivable period
D)Less the firm must invest in working capital

Question 23

A firm faces a liquidity crunch and must decide between borrowing from a bank at 12% interest and stretching its payables for one quarter.If it stretches the payables it will forgo a 2% discount for timely payment.Based solely on cash flows, which would you suggest?

A)Stretching saves the firm approximately 8% per year
B)Use the bank loan; forgoing a cash discount is costly
C)Stretch the payables and finance at a savings of approximately 3.75% annually
D)Use the bank loan because it represents simple interest

Question 24

Customers may change firms when faced with minimal inventory selection.Sales lost in this manner illustrate the:

A)Costs of carrying inventory
B)Lack of customer loyalty
C)Need to maintain a high current ratio
D)Impact of shortage costs

Question 25

A line of credit would be considered:

A)An agreement to borrow up to a specific total amount on demand from a bank
B)A short-term unsecured loan with minimum interest expense
C)A secured loan to be amortized over three to five years
D)A long-term, permanent source of funding

Question 26

Ignoring defaults, what is the approximate effective cost of factoring if receivables are sold at a 2% discount and the average collection period is 1 month?

A)19.40%
B)24.00%
C)26.53%
D)27.40% $(100-98)/$98 = 2.04% per two-month period

Question 27

A firm has borrowed $1 million and assigned its receivables to the lender.Because of defaults, the receivables prove insufficient to cover the debt.In this case, the:

A)Lender bears the risk of default
B)Firm bears the risk of default
C)Default risk is shared between lender and firm
D)Insurance carrier will bear the risk

Question 28

Which of the following is least likely to be correct about the factoring of receivables?

A)The selling firm bears the risk of default
B)The higher the perceived quality of the receivables, the lower the discount rate
C)The discount is paid by the selling firm in the form of reduced sales price
D)Factoring may be the cheapest method of avoiding a cash flow problem

Question 29

When managers are continually short-term lenders they are said to follow a:

A)Middle-of-the-road financing strategy
B)Restrictive financing strategy
C)Relaxed financing strategy
D)Permanent working-capital strategy

Question 30

Your accountant suspects a mistake in the computation of the payables period, which has been reported at 54.75 days.Calculate the correct payables period, given the following: annual sales = $1,200,000, annual cost of goods sold = $700,000, average accounts payable = $105,000.

A)31.94 days
B)54.75 days
C)179.58 days
D)212.92 days payable period =

Question 31

When the length of the financing is directly related to the life of the asset being financed, the firm is said to follow a:

A)Policy of maturity matching
B)Restrictive financing strategy
C)Matched depreciation strategy
D)Minimum working capital strategy

Question 32

Ignoring the risk of theft, cash balances cannot spoil, yet managers are concerned with carrying costs.Why?

A)The federal government may devalue the currency
B)Higher balances require additional supervisors
C)Cash balances are idle and face an opportunity cost
D)Embezzlement is a real risk in most firms

Question 33

A firm's inventory and accounts payable periods are 80 and 42 days respectively.How long can the firm's receivables period be in order to have no longer than a 65 day cash conversion cycle?

A)27 days
B)38 days
C)57 days
D)103 days cash conversion cycle = inventory period + receivable period - accounts payable period
65 $\ge$ 80 days + receivables period - 42 days

Question 34

For most corporations, net working capital is:

A)Negative during the inventory period of the cash conversion cycle
B)Equal to the amount of current assets
C)Positive to provide liquidity during the cash conversion cycle
D)Only present during slack periods of the year

Question 35

Which of the following is least likely to be correct for a firm that repeatedly stretches its payables?

A)The firm may receive more favourable status from suppliers due to its volume of purchases
B)The firm may reduce its explicit short-term interest expense
C)The cost of forgone discounts may exceed the cost of bank credit
D)The firm may be labeled as a credit risk

Question 36

Ignoring defaults, what is the approximate effective cost of factoring if receivables are sold at a 4% discount and the average collection period is 2 months?

A)19.40%
B)24.00%
C)26.53%
D)27.75% $4/$96 = 4.17% per two-month period

Question 37

How high can accounts receivable be allowed to grow before the firm's receivables period exceeds 50 days if annual sales equal $5 million and the cash conversion cycle equals 75 days?

A)$342,466
B)$684,932
C)$1,027,397
D)$1,712,329 receivables period =

Question 38

Which of the following statements is correct concerning marketable securities on a firm's balance sheet?

A)All are U.S.government obligations
B)All earn interest income
C)All are without price risk
D)Not all are guaranteed against loss

Question 39

What is the inventory period for a firm with an annual cost of goods sold of $8 million, $1.5 million in average inventory, and a cash conversion cycle of 75 days?

A)6.56 days
B)18.75 days
C)53.33 days
D)68.44 days inventory period =

Question 40

Which of the following is not typically a characteristic of commercial paper borrowing?

A)Maturity is short-term
B)Banks are not the lenders
C)The loans are secured.
D)Borrowers have high credit quality

Question 41

A firm that follows a "relaxed strategy" towards the total capital requirement will be a:

A)Short-term borrower
B)Short-term lender
C)Long-term lender
D)Long-term borrower

Question 42

Although commercial paper is unsecured, the companies that issue this short-term security are:

A)Typically known to repay all defaults
B)Large firms of top credit quality
C)Small firms of top credit quality
D)Firms that have government-sponsored guarantees for the debt

Question 43

Calculate the accounts receivable period for a firm with annual sales of $10 million and average accounts receivable of $2 million.

A)18.25 days
B)20.00 days
C)51.00 days
D)73.00 days Accounts receivable period =

Question 44

Which of the following situations should provide managers with the most comfort if accounts receivable balances are increasing each quarter?

A)The sales level has decreased
B)The sales level has increased
C)The rate of collections has decreased
D)The rate of collections has increased

Question 45

What motivation is provided for managers not to follow the relaxed strategy of long- versus short-term financing?

A)Transaction costs are required to continually obtain financing
B)Short-term investment income is often unattractive
C)Investment opportunities must frequently be ignored
D)Long-term financing has burdensome tax consequences

Question 46

Bank lines of credit must be judiciously requested because the lines often:

A)Accrue interest regardless of whether funds are borrowed
B)Require payment of a commitment fee to establish
C)Appear as a liability on the firm's balance sheet
D)Have a negative impact on the firm's credit history

Question 47

What is the annual cost of goods for a firm, with accounts payable period of 35 days and average accounts payable of $600,000.

A)$5,753,425
B)$6,171,429
C)$6,257,143
D)$17,142,857 Accounts payable period =

Question 48

What is the payable period for a firm with average accounts payable of $4 million and annual cost of goods sold of $44 million?

A)20.0 days
B)30.0 days
C)35.6 days
D)33.2 days payables period =

Question 49

Managers are alerted to projected cash shortages by way of the:

A)Statement of sources and uses of cash
B)Pro forma balance sheet
C)Cash budget
D)Monthly bank statements

Question 50

Managers who "stretch their payables" are attempting to:

A)Repay more recent charges prior to early charges
B)Improve their current ratio prior to preparation of financial statements
C)Offer finished goods at a discount for repayment
D)Obtain a longer period of short-term financing

Question 51

The following information is for the month of January. Find the ending accounts receivable for January.

A)$25 million
B)$55 million
C)$75 million
D)$265 million Ending accounts receivable = beginning accounts receivable + sales - collections
= 40 + 160 - 145

Question 52

As for the preparation of cash budgets, capital expenditures are:

A)Not included because these items are depreciated
B)Included as sources of operating cash
C)Included as uses of cash and make the budget lumpy
D)Traditionally offset as a use of cash by interest income

Question 53

Which of the following would not be included as a source of short-term financing?

A)Line of credit
B)Increase in the minimum operating cash balance
C)Sale of marketable securities
D)Stretching accounts payable

Question 54

Which of the following is not a source of cash?

A)Net income
B)Repayment of a bank loan
C)Reduction in accounts receivable
D)Depreciation

Question 55

During the year the following changes were observed. (I.) Inventory period increased by 12 days
(II)) Receivables period decreased by 6 days
(III.) Accounts payable period increased by 4 days
Find the net change in cash conversion cycle.

A)-10 days
B)+2 days
C)+10 days
D)+14 days ∆cash conversion cycle = (∆inventory period + ∆receivables period) - ∆accounts receivable period

Question 56

What will be the change in net working capital if you observe the following changes in current assets and current liabilities? (I.) Current assets increase by $170,000.
(II)) Current liabilities decrease by $60,000.

A)Increase by $110,000
B)Increase by $230,000
C)Decrease by $110,000
D)Decrease by $230,000 Change in net working capital = (change in current assets - change in current liabilities)
= 170,000 - (-60,000)

Question 57

What strategy regarding long- versus short-term financing is not being followed if managers resort to short-term investing during downturns in the business cycle?

A)A relaxed strategy
B)A middle-of-the-road strategy
C)A restrictive strategy
D)Both b and c above

Question 58

Field warehousing can be an important source of:

A)Additional storage space for cash-strapped firms
B)Investing for those who follow the "relaxed cash strategy"
C)Cash management for those who factor receivables
D)Short-term financing with low risk to the lender

Question 59

If the Statement of Sources and Uses of Cash shows a decrease in cash balance, which of the following changes might have eliminated that decrease?

A)Increase in cash dividends paid
B)Increase in accounts payable
C)Increase in accounts receivable
D)Increase in inventories

Question 60

Which of the following situations will improve the current ratio if it is initially less than 1.0?

A)Using cash to repay accounts payable
B)Purchasing inventory on credit terms
C)Selling finished goods inventory on credit
D)Purchasing marketable securities for cash

Question 61

A firm needs spare cash because during economic downturns, sales may fall below expectations while outflows could prove higher than was budgeted.Firms sell their accounts receivable at a discount for the purpose of:

A)Finance motive
B)Transactions motive
C)Speculative motive
D)Obtaining short-term financing

Question 62

A firm paid out a dividend of $700,000 and repaid $1,000,000 notes payable.The net effect of these transactions on the firm's net working capital is:

A)Decrease of $1,700,000
B)Decrease of $1,000,000
C)Decrease of $700,000
D)Decrease of $300,000

Question 63

A firm borrows $100,000 from the bank, but has to maintain a compensating balance of $20,000 with the bank.The annual interest rate for the loan is 12%.What is the effective annual rate if the interest is compounded quarterly?

A)12.03%
B)13.00%
C)14.05%
D)15.87% Effective Annual Rate with Compensating Balances =

Question 64

Maintaining a compensating balance will:

A)Decrease the effective annual rate
B)Increase the effective annual rate
C)Not change the effective annual rate
D)Only change the effective rate if payments occur more frequently than annually

Question 65

A credit card company charges its customers an annual interest of 21.0% on the outstanding monthly balance.The effective annual rate for the customer will be:

A)21.00%
B)21.20%
C)23.14%
D)37.93% Effective annual rate =

Question 66

A firm borrows $100,000 from the bank, but has to maintain a compensating balance of $20,000 with the bank.The annual interest rate for the loan is 12%.What is the effective annual rate if the interest is compounded monthly?

A)12.03%
B)13.00%
C)14.05%
D)16.08% Effective Annual Rate with Compensating Balances =

Question 67

In "field warehousing" the inventory is kept by the:

A)Borrowing firm
B)Lending institution
C)Independent warehousing company
D)Jointly by the firm and the lender

Question 68

A firm has $50 million and $60 million credit sales during the first two quarters of the year.Eighty% of the receivables are collected in the same quarter and the balance in the next quarter.What will be the total collection for the firm in the second quarter?

A)$55 million
B)$58 million
C)$88 million
D)$98 million

Question 69

The safety margin kept by the bank on loan against liquid assets is called:

A)A haircut
B)A line of credit
C)Factoring
D)Filed warehousing

Question 70

Calculate the Cash Conversion and Operating cycle, given the following information:

A)107 days and 132 days
B)109 days and 134 days
C)111 days and 136 days
D)113 days and 138 days

Question 71

If a firm decided to speed up its collection from its customers by reducing the receivables period and kept the inventory period and payable period the same, then:

A)Cash conversion cycle will increase
B)Cash conversion cycle will decrease
C)The firm's investment in working capital will be minimized
D)Investment in working capital will be maximized

Question 72

A firm borrows $100,000 from the bank, but has to maintain a compensating balance of $20,000 with the bank.The annual interest rate for the loan is 12%.What is the effective annual rate if the interest is compounded semi-annually?

A)12.03%
B)13.00%
C)14.05%
D)15.56% Effective Annual Rate with Compensating Balances =

Question 73

Calculate the Cash Conversion and Operating cycle, given the following information:

A)9.39 days and 82.39 days
B)15.45 days and 101.52 days
C)17.67 days and 111.56 days
D)20.25 days and 115.50 days

Question 74

Some bank loans require the firm to maintain some amount of money on a balance at the bank which is known as:

A)Compensating balance
B)Transactions motive
C)Precautionary motive
D)Simple interest balance

Question 75

A firm borrows $200,000 from the bank, but has to maintain a compensating balance of $15,000 with the bank.The annual interest rate for the loan is 13%.What is the effective annual rate if the interest is compounded annually?

A)12.03%
B)13.00%
C)14.05%
D)14.41% EAR with comp.Bal.=

Question 76

Optimizing cash balances involves the equating of:

A)Total benefits and total opportunity costs
B)Average benefits and average opportunity costs
C)Accounts receivable and accounts payable
D)Marginal benefits and marginal opportunity costs

Question 77

Which of the following would not be included in a cash budget?

A)Income tax payments
B)Cash receipts
C)Dividend payments
D)Depreciation

Question 78

Issuing additional long-term debt of $5 million and buying new long-term assets worth $5 million will result in a net cash flow of:

A)$5 million
B)$10 million
C)Zero
D)$15 million

Question 79

A firm sells its $1,000,000 receivables to a factor for $960,000.Average collection period is one month.The effective annual rate is:

A)27.43%
B)48.00%
C)60.10%
D)63.21% Factor discount =

Question 80

A firm needs spare cash to deal with capital budget appropriations, dividend payments, and other large outlays.The interest rate on bank loans is simply quoted as:

A)Precautionary motive
B)Transactions motive
C)Speculative motive
D)Simple interest