Deck 28: Credit and Inventory Management

Question 1

Which one of the following statements is false?

A)Commercial drafts represent a way to obtain a credit commitment from a customer before the goods are delivered.
B)When a banker's acceptance is discounted in the secondary market it becomes a commercial note.
C)Sight drafts require immediate payment.
D)Banker's acceptances arise when a bank guarantees payment on a commercial draft.
E)A commercial draft becomes a trade acceptance once the buyer accepts the draft and promises to pay.

Answer 1

When a banker's acceptance is discounted in the secondary market it becomes a commercial note.

Question 2

Seasonal dating of accounts receivable:

A)is used by all firms that grant credit.
B)sets the first date of the relevant season as the final due date for an invoice for seasonal goods.
C)sets a relevant seasonal date as the invoice date for an earlier order.
D)refers to firms that invoice every quarter for sales made in the prior three months.
E)requires all purchasers of seasonal goods to have their purchases paid by the end of the prior season.

Answer 2

sets a relevant seasonal date as the invoice date for an earlier order.

Question 3

Which one of these statements is true regarding promissory notes?

A)Most trade credit arrangements use promissory notes.
B)Promissory notes are used when firms do not anticipate a problem with collections.
C)Promissory notes usually involve no cash discount.
D)A promissory note must be signed and delivered prior to goods being shipped.
E)Promissory notes are used for small orders only.

Answer 3

Promissory notes usually involve no cash discount.

Question 4

On September 1,a firm grants credit with terms of 2/10 net 30.The creditor:

A)must pay a penalty of 2/10 of one percent when payment is made later than October 1.
B)must pay a penalty of 10 percent when payment is made later than 2 days after October 1.
C)receives a discount of 2 percent when payment is made at least 10 days prior to October 1.
D)receives a discount of 2 percent when payment is made on September 1 and pays a penalty of 10 percent if payment is made after October 1.
E)receives a discount of 2 percent when payment is made within 10 days.

Question 5

Selling goods and services on credit is:

A)an investment in a customer.
B)never necessary unless customers cannot pay for the goods.
C)a decision independent of customers.
D)permissible only if your bank lends the money.
E)never a wise decision.

Question 6

The average collection period measures the average:

A)time necessary to collect a credit sale.
B)number of customers per day who charge their purchases.
C)time for a credit customer to return to make a second purchase.
D)number of times a credit customer charges a purchase during a year.
E)number of items purchased in each credit transaction.

Question 7

When credit is granted by one firm to another firm this gives rise to a(n):

A)accounts receivable and is called consumer credit.
B)credit due and is called an installment note.
C)accounts receivable and is called trade credit.
D)trade receivable and is called an installment note.
E)trade receivable and is called a secured loan.

Question 8

Which one of the following statements is false as it relates to considerations firms use when establishing a credit policy?

A)A firm that supplies a perishable product will tend to offer restrictive credit terms.
B)A firm whose customers are in a high-risk business will tend to offer restrictive credit terms.
C)Lengthening the credit period effectively reduces the price paid by the customer.
D)Small accounts,associated with firms that find it difficult to acquire a line of credit,tend to receive longer credit periods.
E)Larger accounts tend to receive more favorable credit terms.

Question 9

The credit period begins on the:

A)shipping date.
B)purchase order date.
C)shipping arrival date.
D)order process date.
E)invoice date.

Question 10

The upper limit to the credit period is best expressed as the length of the:

A)seller's operating cycle.
B)seller's cash cycle.
C)seller's payables period.
D)buyer's operating cycle.
E)buyer's cash cycle.

Question 11

A commercial draft typically:

A)specifies the payment amount and payment due date.
B)specifies that the purchaser use the seller's bank as the guarantor.
C)requires payment prior to the delivery of the goods.
D)is signed upon delivery of the goods.
E)involves a lien on the purchasers' current assets.

Question 12

The three components of credit policy are:

A)collection policy,credit analysis,and interest rate determination.
B)collection policy,credit analysis,and terms of the sale.
C)collection policy,interest rate determination,and repayment analysis.
D)credit analysis,repayment analysis,and terms of the sale.
E)interest rate determination,repayment analysis,and terms of sale.

Question 13

Credit terms of 1/5,net 15 should be interpreted as granting:

A)a 1/5 percent discount for payments within 15 days.
B)a five percent discount for next day payments.
C)a total credit period of 20 days.
D)a credit period of 10 days.
E)a one percent discount for payments received within five days.

Question 14

Credit analysis is best described as the process of:

A)collecting an accounts receivable.
B)determining the optimal credit terms.
C)establishing the length of the credit period.
D)setting the amount of discount to be granted.
E)determining the probability that a customer will not pay.

Question 15

One characteristic of a conditional sales contract is that the:

A)seller retains legal ownership until the buyer completes payment for the goods.
B)buyer is compensated for its opportunity costs.
C)seller receives a prepayment in full.
D)invoice is paid in one lump sum at the end of the credit period.
E)ownership of the goods changes to the buyer immediately upon delivery.

Question 16

With an open account the formal instrument of credit is the:

A)purchase order.
B)invoice.
C)promissory note.
D)banker's acceptance.
E)secured loan document.

Question 17

The length of the credit period offered by a firm is influenced by all of the following except the:

A)level of consumer demand.
B)buyer's operating cycle.
C)standardization of the goods being sold.
D)FTC guidelines for trade credit.
E)customer type.

Question 18

The net credit period for a company with terms of 2/10,net 45 is:

A)10 days.
B)45 days.
C)35 days.
D)55 days.
E)40 days.

Question 19

Cash discounts:

A)increase the amount of credit offered.
B)increase profit margins on sales.
C)speed up the collection of receivables.
D)were first offered in the early 1900s.
E)are a cost-free means of increasing sales.

Question 20

Seasonal dating is used to promote sales during the off-season.This process involves:

A)extending the credit period until after the season ends.
B)extending both the discount period and the credit period by two months.
C)accepting orders early but withholding shipment until the peak season.
D)accepting orders early but dating the invoice when the goods are actually shipped.
E)dating an invoice at a later date than when the goods are shipped.

Question 21

All the following can provide credit information about a customer except:

A)the customer's financial statements.
B)credit reports.
C)the customer's current payment history with the seller.
D)the amount of goods the customer desires to purchase.
E)banks.

Question 22

When analyzing the NPV of a decision to switch from a cash-only sales policy to a credit policy with an early payment discount,the firm is least apt to consider the:

A)size of the discount.
B)length of the credit period.
C)firm's variable costs.
D)expected change in sales.
E)fixed salaries of the sales force.

Question 23

All of these are carrying costs of inventory except:

A)storage costs.
B)insurance.
C)restocking costs.
D)theft.
E)the opportunity cost of capital.

Question 24

When analyzing the decision to change the cash discount policy,the firm should select the policy that has the:

A)highest order size.
B)lowest variable cost per unit.
C)lowest NPV.
D)highest NPV.
E)lowest cash discount.

Question 25

The minimum level of inventory that a firm wants to keep on hand at all times is referred to as:

A)the base level.
B)safety stock.
C)the opportunity cost.
D)the reorder point.
E)keiretsu.

Question 26

The EOQ model considers all the following except the:

A)cost of the inventory.
B)carrying cost.
C)fixed cost of an order.
D)restocking cost.
E)annual sales units.

Question 27

Which one of these statements is correct?

A)Finished goods are classified as a commodity.
B)Work-in-progress may have less resell value than the individual component parts did.
C)Raw materials that are considered to be a commodity are generally illiquid.
D)Raw materials consist of only those goods that are found in nature.
E)Finished goods are highly liquid because they are completed.

Question 28

The decision to grant credit should consider all the following except the:

A)delay in revenues from granting credit.
B)immediate costs of granting credit.
C)probability of nonpayment.
D)cost of short-term borrowing.
E)fixed costs incurred during the credit period.

Question 29

The basic assumption of the ABC approach to inventory management is that:

A)inventory should be divided dependent on the type of cash or credit sale anticipated.
B)most items are ordered,stocked,and sold in a relatively short period of time.
C)firms should receive A customer's order Before incurring inventory Costs.
D)a small portion of inventory represents a large portion of inventory costs.
E)firms should Always Be Consistent in the amount of inventory ordered.

Question 30

Determining the optimal credit policy is based on a trade-off between the carrying costs of granting credit and the:

A)lost profits from refusing credit.
B)cash flows delayed from granting credit.
C)opportunity cost of the delayed payments.
D)variable costs associated with the delayed payments.
E)present value of uncollected sales.

Question 31

One key reason for establishing a captive finance company is the:

A)reduction of legal restrictions on the amount of debt that can be incurred.
B)increased opportunities for internal sales.
C)lower level of required financial insurance.
D)anticipated decrease in accounts receivable.
E)expected decrease in the cost of the debt required to finance receivables.

Question 32

The total restocking cost is calculated as:

A)Fixed cost per order × Number of orders.
B)Order size × Variable cost per unit.
C)Carrying costs + Fixed costs.
D)Number of orders × Variable cost per unit.
E)Fixed cost per unit × Average inventory.

Question 33

Which one of the following statements is false?

A)An aging schedule includes only overdue accounts.
B)Aging schedules are used to monitor accounts receivable.
C)If sales are seasonal,the percentages shown on an aging schedule will vary during the year.
D)Collection efforts may involve legal action.
E)Investments in accounts receivable equal average daily sales times average collection period.

Question 34

Windshield glass purchased by an automaker and sitting on a shelf ready for use is classified as:

A)finished goods inventory.
B)raw materials.
C)assembly materials.
D)work-in-progress.
E)partial-goods inventory.

Question 35

Since the credit decision usually includes riskier customers,the decision should adjust for this by:

A)determining the probability of nonpayment and reducing the expected cash flows accordingly.
B)discounting the net cash flows at a lower discount rate.
C)discounting the cash inflows at a higher discount rate.
D)increasing the variable cost per unit.
E)decreasing the variable cost per unit.

Question 36

To collect on the accounts receivable due to the firm,a firm can do all the following except:

A)send a delinquency letter of past due status to the customer.
B)make personal contact by telephone.
C)employ a collection agency.
D)take legal action against the customer as necessary.
E)forcibly remove property from the buyer's premises.

Question 37

Assume you graph the costs of granting credit against the amount of credit extended.The optimal credit amount is then determined by the point which:

A)minimizes the total cost curve.
B)maximizes the carrying costs associated with granting credit.
C)maximizes the opportunity costs associated with granting credit.
D)minimizes the carrying costs of granting credit.
E)minimizes the opportunity costs of granting credit.

Question 38

All the following are one of the "Five C's of Credit" except:

A)capability.
B)capacity.
C)capital.
D)character.
E)conditions.

Question 39

At the optimal inventory level,the:

A)inventory is held to its daily minimum level.
B)inventory is maintained at a level equal to one week's production needs.
C)carrying costs equal the restocking costs.
D)inventory opportunity costs are zero.
E)shortage costs are eliminated.

Question 40

The EOQ model assumes inventory:

A)is held at a constant level.
B)is sold at a steady rate until it is depleted.
C)will be available just as it is needed for production.
D)has seasonal fluctuations.
E)can be delivered immediately upon order.

Question 41

If 34 percent of customers pay on Day 10 and the remainder pay in an average of 28 days,what is the average collection period?

A)19.72 days
B)20.08 days
C)21.88 days
D)18.47 days
E)22.09 days

Question 42

Lemoyne mailed an invoice today in the amount of $1,268 with terms of 2/7 net 30.What is the cost of credit to the customer if they pay on the last day of the credit period? Assume a 365-day year.

A)41.02 percent
B)39.62 percent
C)37.80 percent
D)37.56 percent
E)39.40 percent

Question 43

Lewis Companies sells 2,600 units a month for cash at a price of $299 a unit and a variable cost of $187 a unit.The firm estimates it can increase its sales by 200 units a month if it switches to a net 30 credit policy while keeping its price and costs at their current levels.If the monthly cost of capital is .85 percent,what is the NPV of switching?

A)$1,590,005
B)$1,394,008
C)$1,211,036
D)$1,820,494
E)$2,006,413

Question 44

For a JIT inventory system to be efficient,the:

A)inventory must have an independent demand.
B)firm's suppliers need to be able to deliver goods quickly upon order.
C)managers must limit production each day to a set quantity.
D)firm must be a reseller of goods,not a manufacturer.
E)supplying firm must be a subsidiary of the ordering firm.

Question 45

Alexander Moore & Co.is willing to offer credit on a one-time purchase provided the NPV of the transaction is at least $50 at a required monthly return of 2 percent.Assume a potential sale has a sales price of $248 and a variable cost of $164.What is the maximum probability of default that will result in an acceptable offer?

A)32.55 percent
B)29.62 percent
C)11.98 percent
D)10.02 percent
E)18.50 percent

Question 46

Delta Distributors has accounts receivable of $2,750,000 and average daily credit sales of $118,280.The firm offers credit terms of 2/10,net 30.On average,what is the firm's accounts receivable period?

A)19.47 days
B)23.25 days
C)37.14 days
D)20.00 days
E)18.64 days

Question 47

Edgeworth Co.has an all-cash policy and sells 50 units per month at $920 a unit.The variable cost is $700 a unit.Should the firm grant 30 days of credit,it expects its sales would rise to 60 units without changes to price or costs per unit.The monthly required return is .75 percent.What is the NPV of switching to a credit policy?

A)$266,667
B)$346,333
C)$366,667
D)$240,333
E)$258,778

Question 48

Neilson's is a new firm that sells a product with a variable cost of $62 a unit.The firm has a monthly required return of 1.8 percent.The firm wants to offer all new customers 30 days of credit and expects that if it does so,that 12 percent will default on payment while the others become repeat customers.What is the minimum price the firm could charge to break-even on an NPV basis?

A)$82.15
B)$74.09
C)$63.27
D)$98.14
E)$78.40

Question 49

A&M Hardware assumes new customers will default 8 percent of the time but if they don't default,they will become repeat customers who always pay their bills.Assume the average sale is $383 with a variable cost of $260,and a monthly required return of 1.65 percent.What is the NPV of extending credit for one month to a new customer?

A)$5,589.09
B)$6,103.47
C)$6,598.18
D)$5,748.09
E)$6,858.18

Question 50

The first step in materials requirements planning is establishing the:

A)desired minimum raw materials inventory level.
B)finished goods inventory level.
C)cost of each order.
D)delivery time required for each type of raw material.
E)value of each inventory item as a percent of total inventory.

Question 51

The reorder point considers all the following except the:

A)safety stock.
B)variable costs per unit.
C)delivery time.
D)minimum desired inventory level.
E)rate of sales.

Question 52

Assume Atlantic Fish sells 3,200 pounds of fish per month at a price of $2.90 a pound.The variable cost per pound is $2.22.Currently,the firm has a cash-only sales policy.The firm is considering changing to a net 30 credit policy.The monthly required return is 1.2 percent.What does the new level of sales need to be to break even on the switch?

A)3,219.40 pounds
B)3,489.67 pounds
C)3,370.44 pounds
D)170.44 pounds
E)119.40 pounds

Question 53

Yesterday,Smiley Company sold $22,500 of merchandise on credit.The invoice was sent today with the terms,3/10 net 40.This customer normally pays on the net date.What is the effective rate of interest the customer is paying by not taking the discount? Assume a 365-day year.

A)42.31 percent
B)44.86 percent
C)39.27 percent
D)40.54 percent
E)45.38 percent

Question 54

Jaxon Markets currently has credit terms of net 30,an average collection period of 29 days,and average receivables of $211,410.The firm estimates that if it offered terms of 2/10,net 30 that 45 percent of its customers would pay on Day 10 with the remainder paying on average in 32 days.How much cash could the company free up from its accounts receivables if it switched its credit policy?

A)$38,762
B)$50,301
C)$64,219
D)$58,336
E)$65,009

Question 55

Jensen's Boat Works total costs of holding inventory is $8,400 when its order sizes are optimized.If the firm places 46 orders a year,what is the fixed cost per order?

A)$106.87
B)$101.15
C)$91.30
D)$87.62
E)$79.08

Question 56

Fried Onions has total annual sales of 438,000 units,a carrying cost per unit of $2.67 per year,and restocking costs of $48 per order.What is the EOQ?

A)4,203 units
B)3,824 units
C)3,968 units
D)4,126 units
E)4,511 units

Question 57

Sisler's sells 382,000 units a year and orders 10,000 units at a time.The cost of placing an order is $24.90.What is the firm's annual total restocking cost?

A)$909.09
B)$984.23
C)$951.18
D)$1,023.02
E)$811.19

Question 58

Underwood United has been approached by a new customer who has asked the firm to extend credit for 30 days on a one-time purchase of $499.The firm's required return on receivables is 1.8 percent per month and the variable cost of the desired item is $327.What is the NPV of granting credit if the firm estimates the probability of default is 15 percent?

A)$62.93
B)$108.40
C)$89.65
D)$94.15
E)$76.67

Question 59

Baked Potatoes has total annual sales of 846,000 units,a carrying cost per unit of $1.64 per year,and restocking costs of $31 per order.Each inventory item has an average cost of $2.39.What is the average dollar value of the firm's inventory if it always orders the most economical quantity?

A)$6,758
B)$7,008
C)$7,409
D)$6,218
E)$6,411

Question 60

Crocket Motors has an account receivable balance of $682,400 and the average collection period is 38 days.What are the firm's credit sales per day?

A)$17,957.89
B)$23,333.33
C)$71,044.38
D)$259,312.00
E)$236,408.11

Question 61

Identify several factors that affect the length of the credit period and provide an explanation of each.

Question 62

Explain how inventory is managed under an ABC inventory system.

Question 63

Green Garden is a cash-only company.The company is considering switching to a 30-day credit policy with no discounts.What factors should the firm consider before making the switch?

Question 64

Explain the purpose of a safety stock and how this relates to reorder points.

Question 65

There are generally considered to be five key factors that should be evaluated when trying to determine if a customer will pay.Write five questions that a credit manager should answer when reviewing a credit application that would address these factors.

Question 66

Uptown Markets recently did an analysis of its credit policy and considered several different options.Once the analysis was completed and reviewed,the firm adopted the most optimal policy.The president then stated: "Now,that's done.So we don't ever have to go through that process again." Do you agree? Justify your answer.