Deck 20: The Management of Cash and Marketable Securities

Question 1

The costs of a lockbox collection system include _____.

A) foregone returns on the required offset balances
B) service fees charged by the post office
C) increased bad-debt expenses
D) foregone returns on the required compensating balances and service fees charged by the bank

Answer 1

D

Question 2

Which of the following types of marketable securities is most suitable for a smaller firm with only a few thousand dollars to invest at any given time?

A) Money market mutual funds
B) Treasury bills
C) Federal agency issues
D) Commercial paper

Answer 2

A

Question 3

Which of the following statements concerning auction rate securities is true?

A) The price of the stock stays near par.
B) Fifty percent of the dividends are exempt from corporate income taxes.
C) The dividend yield on these securities is adjusted every 20 days through an auction process, where investors can exchange their stock for cash.
D) The price of the stock stays well above par.

Answer 3

A

Question 4

All except which of the following are methods used in expediting the collection of cash?

A) Wire transfers
B) Lockboxes
C) Drafts
D) Decentralized collection centers and concentration banks

Question 5

Which of the following types of marketable securities normally has the lowest yields?

A) Federal agency issues
B) Treasury bills
C) Repurchase agreements
D) Commercial paper

Question 6

Which of the following statements concerning "zero balance" systems is (are) correct?

A) Zero balance systems help utilize disbursement float more effectively.
B) Exactly enough funds are transferred into the zero balance accounts each day to cover the checks that have cleared.
C) The function of the concentration account is to receive all deposits coming into the zero balance system.
D) All of these are correct.

Question 7

The "shortage" costs associated with inadequate liquid asset balances include _____.

A) higher cash discounts
B) possible financial insolvency
C) lower interest expense
D) possible financial insolvency and lower interest expense

Question 8

Which of the following statements concerning drafts is (are) correct?
I. Drafts require the firm to keep larger balances in its disbursement account.
II. When a draft is transmitted to the firm's bank for collection, the bank must present the draft to the firm for acceptance before payment is made.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 9

____ are processed through the automated clearing house (ACH) system.

A) Drafts
B) Wire transfers
C) Check-like electronic images
D) Floats

Question 10

The firm's optimal liquid asset balance occurs where the sum of the opportunity holding and ____ costs are minimized.

A) borrowing
B) compensating balance
C) shortage
D) capital

Question 11

Which of the following criteria is generally least important in selecting marketable securities for inclusion in the firm's portfolio?

A) Length of maturity
B) Yield
C) Marketability
D) Default risk

Question 12

Which of the following types of marketable securities is considered to have the lowest default risk?

A) Bankers' acceptances
B) U.S. Treasury issues
C) Repurchase agreements
D) Commercial paper

Question 13

Liquid asset balances include all except which of the following?

A) Accounts receivable
B) Checking account balances
C) Marketable securities
D) Currency on hand

Question 14

The primary reason(s) why firms hold liquid asset balances is (are) ______.

A) for transactions purposes only
B) for precautionary purposes only
C) to compensate its broker for various services rendered to the firm
D) for transaction and precautionary purposes

Question 15

The optimal amount of the firm's liquid asset balance to be invested in marketable securities is a function of the _____.

A) interest earned over the expected holding period
B) transaction cost involved in buying and selling the securities
C) spread between long-term and short-term interest rates
D) interest earned over the expected holding period and the transaction cost involved in buying and selling the securities

Question 16

Which of the following methods is (are) used to transfer surplus funds from local (collection) bank accounts to concentration (disbursement) bank accounts?

A) wire transfers
B) electronic depository transfer checks
C) (mail) depository transfer checks
D) All of these are correct

Question 17

The difference between the firm's checking account balance shown on the books of the bank and the account balance shown on its own books is known as _____.

A) overdraft
B) compensating balances
C) surplus balances
D) float

Question 18

The fastest method for moving funds between banks is ______.

A) special courier services
B) wire transfers
C) drafts
D) float

Question 19

A ____ is a short-term debt instrument issued as part of a commercial transaction, with payment guaranteed by a commercial bank.

A) negotiable certificate of deposit
B) commercial paper
C) repurchase agreement
D) bankers' acceptance

Question 20

____ consist(s) of short-term unsecured promissory notes issued by large, well-known corporations and finance companies.

A) Negotiable certificates of deposit
B) Commercial paper
C) Repurchase agreements
D) Bankers' acceptances

Question 21

The primary reason(s) that firms do not hold long-term U.S. Treasury securities in their marketable securities portfolio is because ______.

A) the interest-rate risk associated with these securities is too high
B) the transactions costs associated with these securities is too high
C) the default risk associated with these securities is too high
D) these securities are not readily marketable

Question 22

The "shortage" costs associated with inadequate liquid asset balances include all except which of the following?

A) Deterioration of the firm's credit rating
B) Foregone cash discounts
C) Lost sales
D) Possible financial insolvency

Question 23

In addition to providing their commercial customers with lines of credit and/or term loans, banks provide all except which of the following tangible services?

A) Handling of dividend payments
B) Registration and transfer of a firm's stock
C) Establishment of credit terms
D) Cash management

Question 24

All except which of the following would be viable securities to purchase with temporary excess cash?

A) A recently issued 30-year Baa corporate bond
B) U.S. Treasury bill
C) The commercial paper of General Motors Acceptance Corporation
D) A repurchase agreement

Question 25

The objective of cash collection and disbursement policies is to _____.

A) minimize storage costs
B) speed up collections and slow down disbursements
C) maximize the return on near cash equivalents
D) avoid using float

Question 26

A ____ is an unsigned, nonnegotiable check drawn on the local collection bank and payable to the concentration bank.

A) pre-authorized check
B) banker's acceptance check
C) special remittance
D) mail depository transfer check

Question 27

The first step in efficient cash management is the development of a ____.

A) liquid asset balance
B) cash budget
C) proforma cash flow statement
D) compensating spreadsheet

Question 28

The Essex Company found that an average of 10 days elapses between the time a customer's payments are received and the deposited funds clear the customer's bank and become usable by the firm. Essex's annual sales are $240 million. (Assume 365 days per year when converting from annual data to daily data or vice versa.) What is the increase in Essex's average cash balance, assuming it can reduce the time required to process customer payments by 3 days through more efficient payment processing methods?

A) $666,667
B) $120,000,000
C) $1,972,603
D) $270,000

Question 29

To minimize the cost associated with misdirected funds between subsidiaries, many multinational companies have instituted a process called ____.

A) multinational cash consolidation
B) multilateral netting
C) unilateral netting
D) cash restriction

Question 30

A ____ is a security issued by a commercial bank that entitles the holder to receive the amount deposited plus accrued interest on a specified date.

A) negotiable certificate of deposit
B) commercial paper
C) banker's acceptance
D) repurchase agreement

Question 31

The primary components or sources of float include all except which of the following?

A) Check clearing float
B) Collection float
C) Processing float
D) Mail float

Question 32

The Essex Company found that an average of 10 days elapses between the time a customer's payments are received and the deposited funds clear the customer's bank and become usable by the firm. Essex's annual sales are $240 million. (Assume 365 days per year when converting from annual data to daily data or vice versa.) Suppose Essex can reduce the time required to process customer payments by 4 days through more efficient payment processing methods. Given these additional funds can be used to reduce the firm's outstanding bank loans (10% interest rate), what is the annual pretax savings in interest expense?

A) $263,014
B) $96,000,000
C) $66,667
D) $2,630,149

Question 33

All except which of the following are criteria that a firm should consider when deciding where to invest excess cash reserves among the different types of securities?

A) Rate of return
B) Maturity date
C) Issue date
D) Marketability

Question 34

All except which of the following are cash management strategies to expedite collections?

A) A lockbox collection system
B) Wire transfers
C) Decentralized collection system
D) The use of drafts instead of checks

Question 35

Osborne Shipbuilding Company, located in Baton Rouge, receives large remittances from its customers in New York and California. If the firm deposits these checks in its local bank, two business days are required for the checks to clear and the funds to become usable by the firm. However, if Osborne sends an employee to New York or California and presents the check for payment at the bank upon which it is drawn, the funds are available immediately to the firm. The firm can earn 8% per annum on short-term investments, and the cost of sending an employee to New York or California to present the check for payment is $500. What is the net benefit to the firm of employing this special handling technique for a $5 million check received on Tuesday? (Assume 365 days per year.)

A) $2,192.00
B) $1,692.00
C) $2,000.00
D) $1,095.50

Question 36

The cash management function is concerned with determining the _____.

A) optimal size of a firm's liquid asset balance
B) appropriate types and amounts of short-term investments the firm should make
C) most efficient methods of controlling the collection and disbursement of cash
D) All of these are correct

Question 37

Which of the following types of marketable securities has a relatively weak secondary market?

A) Bankers' acceptances
B) Federal agency issues
C) Negotiable certificates of deposit
D) Commercial paper

Question 38

In general, the ____ the number of checks being handled and the ____ the dollar amount of each check, the greater the benefit of a lockbox arrangement to a firm.

A) smaller; greater
B) greater; smaller
C) greater; greater
D) smaller; smaller

Question 39

There is ____ relationship between a firm's liquid asset balance and "shortage" costs.

A) a direct
B) no
C) an inverse
D) a very small

Question 40

____, which are similar to a check except they are not payable on demand, are used primarily to provide for centralized control over payments authorized in field offices.

A) Preauthorized checks
B) Drafts
C) Mail depository transfer checks
D) Electronic depository transfer checks

Question 41

Tocor is considering the implementation of a lockbox collection system for its mid-western and western sales regions. Sales in those two regions are 30% of Tocor's annual sales of $560 million. The lockbox system will cost $187,000 a year and reduce collection time by 3 days. If Tocor could invest any released funds at 10.85%, should it use the lockbox system? Why or why not? (Assume 365 days per year.)

A) Yes; savings of $149,819
B) Yes; savings of $312,397
C) No; loss of $37,181
D) No; loss of $35,100

Question 42

Marcos Company annual sales are $730 million. Suppose Marcos can reduce the time required to process customer payments by 3 days through more efficient payment processing techniques. Given that any funds released by these methods can be invested elsewhere in the company to yield a 15% pretax rate of return, determine the annual increase in pretax returns. (Assume 365 days per year in all calculations.)

A) $900,000
B) $300,000
C) $6,000,000
D) Cannot be determined from the information provided

Question 43

MLX has annual sales of $320 million per year and has calculated the collection float to be 12 days. If MLX is currently paying 9.35% on its line of credit, what amount of interest expense could be saved if the collection float is reduced by 3 days? (Assume 365 days per year.)

A) $249,333
B) $573,808
C) $299,200
D) $245,918

Question 44

Fagins, a nationwide department store chain, currently processes all of its credit sales payments at its St. Louis headquarters. The firm is considering the establishment of a lockbox arrangement with a Los Angeles bank to process payments from its customers in 10 western states. With the lockbox system, average mailing time for customers from this region would be reduced from 3 days to 1.5 days. Check-clearing time would also be reduced from 4 days to 2.5 days. Annual collections from the western region are $150 million. Establishment of this lockbox system would reduce the compensating balance requirement at the firm's St. Louis bank by $600,000 and reduce annual payment processing costs at the St. Louis office by $30,000. Funds released by the lockbox arrangement can be invested elsewhere in the firm to earn 12% before taxes. The Los Angeles bank has agreed to process Fagins' customer payments for an annual fee of $100,000. What are the annual net pretax benefits to Fagins of establishing a lockbox system with the Los Angeles bank? (Assume 365 days per year.)

A) $222,000
B) $130,000
C) $1,832,877
D) $149,945

Question 45

Pronet has annual sales of $724 million from its 600 retail stores. Pronet can reduce its mail float by 2 days using wire transfers. The annual cost of the wire transfers is expected to be $105,610. If Pronet's cost of short-term funds is 9.75%, should the change to wire transfers be made? Why or why not? (Assume 365 days per year.)

A) No; loss of $247,340
B) Yes; savings of $281,185
C) Yes; savings of $474,582
D) No; loss of $105,610

Question 46

Dupree Funds is considering the fees charges by two banks. First America charges a flat rate of $0.11 per payment, and First Western requires a minimum compensating balance of $500,000, plus $0.05 per payment. What is the number of payments per year where the costs of the two banks will be equal? Assume Dupree's costs of funds is 9%.

A) 281,250
B) 750,000
C) 900,000
D) 409,091

Question 47

Tritonic is considering switching from depository transfer checks to using wire transfers for sending funds from its local banks to its bank in Chicago. The cost of the wire transfer is $5.25 more than the cost of depository transfer checks. The change would reduce the total float by 3 days. Tritonic can earn 8.5% on the funds released through the more efficient transfer. If Tritonic has 30 local banks, what annual sales level would the firm require before the change to wire transfers would be profitable? (Assume there are 250 business days each year.)

A) $391,544,118
B) $56,360,294
C) $84,286,029
D) $1,149,750

Question 48

Jester Inc. has annual sales of $434 million. An average of 12 days elapses between the time a customer mails its payment and the funds are available to Jester. What would be the increase in the average cash balance if the use of a lockbox system would reduce the collection time by 4 days?

A) $4.76 million
B) $49.6 million
C) $633,640
D) $9.5 million

Question 49

Galway's sales average $12 million per day. If Galway could reduce the time between a customer's mailing date and when these payments are available to Galway by 3 days, what would be the resulting annual increase in earnings if the opportunity cost of funds is 9.25%?

A) $1.11 million
B) $98,630
C) $3.33 million
D) $9,123

Question 50

Lexicon has a daily average check collections of $180,000, and it takes the firm 5 days before it can completely process those checks. An automated lockbox system that costs $33,000 a year would reduce the processing time by 2 days. Should Lexicon invest in this system if the opportunity cost of short-term funds is 12.3%? Why or why not?

A) Yes; savings of $44,280
B) Yes; savings of $33,420
C) Yes; savings of $11,280
D) No; loss of $10,860

Question 51

Slimware is considering establishing a zero-balance system for its payroll account. Currently, the firm pays its hourly employees every week on late Friday afternoon and puts a check for $750,000 in the bank to cover the payroll each Monday morning. Slimware has determined that the checks clear its bank as follows: ? $$\begin{array} { l c } \text { Day } & \text { Percent clearing } \\\text { Monday } & 26 \% \\\text { Tuesday } & 51 \% \\\text { Wednesday } & 14 \% \\\text { Thursday } & 7 \% \\\text { Friday } & 2 \%\end{array}$$ ?
What is the annual pretax return to Slimware if the firm can earn 9% on any funds released from employing the zero-balance system? Assume the company has 52 weekly pay periods each year.

A) $10,385
B) $199.72
C) $24,601
D) $17,488

Question 52

A Delaware bank has offered to set up a lock-box arrangement to process Union Oil Company of California's (UNOCAL) credit card payments from customers in 8 mid-Atlantic states for an annual fee of $150,000 plus $0.05 per payment. Total collections from this area are $547.5 million annually, consisting of an average of 10 payments per year from 1,100,000 credit card customers. Average mailing time for customers from this region would be reduced from 3.5 days currently to 2 days with the lock-box system. Check processing and clearing time also would be reduced from the current 5 days to 1.5 days with the lock-box arrangement. Establishment of the lock-box system would reduce annual payment processing costs at its Los Angeles headquarters by $250,000 and reduce the compensating balance at its Los Angeles bank by $500,000. The Delaware bank will not require UNOCAL to maintain a compensating balance if it establishes a lock-box system. Funds released by the lock-box arrangement can be invested elsewhere in the firm to earn 15% per annum pretax. Determine the net pretax benefits to UNOCAL of establishing the lock-box system with the Delaware bank. (Assume 365 days per year in all calculations.)

A) $675,000
B) $750,000
C) $500,000
D) $450,000

Question 53

Fagins, a nationwide department store chain, currently processes all of its credit sales payments at its St. Louis headquarters. The firm is considering the establishment of a lockbox arrangement with a Los Angeles bank to process payments from its customers in 10 western states. Average mailing time for customers from this region would be reduced from 3 days to 1.5 days. In addition, check processing and clearing time would be reduced from 4 days to 2.5 days. Annual collections from the western region are $150 million. Establishment of this lockbox system would reduce the compensating balance requirement at the firm's St. Louis bank by $600,000 and reduce annual payment processing costs at the St. Louis office by $30,000. Funds released by the lockbox arrangement can be invested elsewhere in the firm to earn 12%. The Los Angeles bank has agreed to process Fagins' customer payments "free of charge," provided the firm maintains a minimum compensating balance of $1,500,000 in its account at the bank. What are the annual net benefits to Fagins of establishing a lockbox system with the Los Angeles bank? (Assume 365 days per year.)

A) $630,000
B) $332,877
C) $69,945
D) $41,096

Question 54

Lone Star Technologies has annual sales of $336 million. Management has determined that an average of 8 days elapses between the time customers mail their payments and when the funds are available to the firm. The cost of reducing the float 3 days will be $60,000. Should Lone Star work to reduce the float if the increase in cash can be invested to earn 7.5% per annum? Why or why not?

A) Yes; savings of $9,041
B) Yes; savings of $147,123
C) Yes; savings of $78,080
D) No; loss of $18,080

Question 55

Average daily sales for Sierra are $140,000. The financial manager can reduce the float by 4 days using a lockbox system that will cost $33,000. If the opportunity cost of any funds released is 11%, what is the annual savings from this system?

A) $28,600
B) $14,520
C) $61,600
D) $35,000

Question 56

Currently Nemonix is using a decentralized collection system whereby customers mail their checks to one of the firm's eight regional locations. Its annual sales are $95 million. Checks are deposited each business day in a local bank, and the amount of the deposit is sent to the firm's concentration bank in Dallas. The average time between deposit in the local bank and the availability of those funds, in Dallas, to Nemonix is 6 days. Nemonix has determined that the use of wire transfers would reduce the float by 4 days, but the transfer will cost $7.50. If transfers will be made on the 250 days that banks are open each year, should Nemonix switch to the wire transfer system? Why or why not? Assume that Nemonix can earn 8% on the funds released through this more efficient transfer.

A) Yes; savings of $106,600
B) Yes; savings of $61,388
C) Yes; savings of $68,288
D) No; loss of $6,671

Question 57

Amazon's CFO is considering the fees charged by two banks in trying to determine which is best for her firm. First American (FA) charges a flat $0.11 per payment and First Western (FW) requires a minimum compensating balance of $500,000 plus $0.05 per payment. If Amazon's cost of funds is 8.50% and the expected number of payments per year is 900,000, which bank should be chosen and why?

A) FW; savings = $54,000
B) FA; savings = $23,000
C) FW; savings = $11,500
D) FW; savings = $18,500

Question 58

Cash management involves the ______.
I. determination of the best locations for lockboxes
II. setting up of decentralized collection centers

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 59

Zycad has sales of $110 million a year. If Zycad reduces its processing float by 3 days, what is the increase in the firm's average cash balance? (Assume 365 days per year.)

A) $916,667
B) $904,110
C) $872,180
D) $30,137

Question 60

Cash management involves the determination of the _____.

A) minimal size of a firm's asset balance
B) maximum amount of dividends that should be paid
C) optimal size of a firm's liquid asset balance
D) range of long-term financial alternatives

Question 61

When and why is it best to use lockboxes? Explain when alternative methods should be used.

Question 62

Which of the following is (are) the most liquid of a company's assets?
I. Inventory is the most liquid.
II. Accounts receivable is the most liquid.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 63

A reason a firm would maintain a bank balance exceeding the compensating balance requirements is because it ______.

A) reduces the opportunity cost
B) improves the firm's credit rating
C) alters the requirements imposed by the bank
D) reduces shortage costs

Question 64

A(n) ____ relationship exists between a firm's liquid asset balance and shortage costs.

A) unified
B) positively correlated
C) inverse
D) linear

Question 65

All except which of the following portfolio criteria are concerned with risk?

A) Rate of return
B) Default risk
C) Marketability
D) Maturity date

Question 66

Firms that have large multi-million-dollar remittances use _____.

A) the Federal Reserve System
B) couriers
C) lockboxes
D) wire transfers

Question 67

Banks use depository transfer checks to move surplus funds from bank accounts to its concentration bank account or accounts. Explain how this is done.

Question 68

The "Check 21" act allows banks to _____.

A) use substitute checks to reduce check-clearing time
B) delay paying the check without proper identification
C) choose when checks are processed
D) fingerprint people who are cashing checks

Question 69

Cash flows differ with respect to their degree of certainty. Which of the following can be most easily forecasted?

A) Cash outflows
B) Current cash inflows
C) Seasonal cash requirements
D) Future cash inflows

Question 70

Drafts _____.

A) are payable on demand
B) are legally paid on the third business day
C) require the firm to keep large balances in its disbursement accounts
D) are more expensive than checks

Question 71

Concentration banking involves _____.

A) using decentralized collection centers
B) having a large balance at a large commercial bank
C) having multiple accounts with a brokerage firm
D) utilizing an investment banker when trying to market both stocks and bonds

Question 72

Tangible services provided by a firm's bank include all except which of the following?

A) Cash management
B) Supplying credit information
C) Collection of deposits
D) Handling of dividend payments

Question 73

Which of the following is (are) considered an intangible banking service?
I. Providing lines of credit is an intangible banking service.
II. Providing consultation on such matters as economic conditions and mergers is an intangible banking service.

A) Only statement I is correct.
B) Only statement II is correct.
C) Both statements I and II are correct.
D) Neither statement I nor II is correct.

Question 74

The level of liquid assets that should be invested in marketable securities depends on several factors. This includes all except which of the following?

A) Seasonal cash requirements
B) Interest to be earned over the expected holding period
C) Transaction costs involved in buying and selling the securities
D) The variability of the firm's cash flows

Question 75

An ordinary check that does not require the signature of the person or firm on whose account it is being drawn is a _____.

A) cashier's check
B) preauthorized check
C) depository check
D) float

Question 76

Cash management involves much more than simply paying bills and receiving payments for goods and services. The cash management function is concerned with all except which of the following?

A) Determining the optimal size of a firm's liquid asset balance
B) The appropriate types of long-term debt the firm should have
C) The most efficient methods of controlling the collection and disbursement of cash
D) The appropriate types and amounts of short-term investments a firm should make