Exam 17: Working Capital Management and Short-Term Financing

Suppose the credit terms offered to your firm by your suppliers are 2/10,net 30 days.Out of convenience,your firm is not taking discounts,but is paying after 25 days,instead of waiting until Day 30.You point out that the nominal cost of not taking the discount and paying on Day 30 is approximately 37%.But since your firm is not taking discounts and is paying on Day 25,what is the effective annual cost (NOT the nominal cost) of your firm's current practice,using a 365-day year?

An increase in the holding of marketable securities must be accompanied by a corresponding increase in the net operating working capital.

Trade credit can be separated into two components: free trade credit,which is credit received after the discount period ends,and costly trade credit,which is the cost of discounts not taken.

Durham Cement,Inc.buys on terms of 2/15,net 30 days.It does not take discounts,and it typically pays 60 days after the invoice date.Net purchases amount to $720,000 per year.What is the nominal annual cost of its non-free trade credit? (Assume a 365-day year.)

The trade credit that a firm receives during the discount period is referred to as free trade credit.

A firm is said to be using costly trade credit when its accounts payable are extended beyond the discount period and an explicit cost is shown on the foregone discounts.

Funds from short-term loans can generally be obtained faster than from long-term loans for two reasons: (1) when lenders consider long-term loans they must make a more thorough evaluation of the borrower's financial health,and (2) long-term loan agreements are more complex.

If a firm's suppliers stop offering discounts,then its use of trade credit is more likely to increase than to decrease.

Hefner Inc.'s business is booming,and it needs to raise more capital.The company purchases supplies on terms of 1/10,net 20,and it currently takes the discount.One way of getting the needed funds would be to forego the discount,and the firm's owner believes she could delay payment to 40 days without adverse effects.What would be the effective annual rate of funds raised by this action? (Assume a 365-day year.)

Which of the following statements is NOT true?

The factoring of receivables involves the specific use of receivables as collateral for the loan.

Gorman Inc.arranged a $10,000,000 revolving credit agreement with a group of banks.The firm paid an annual commitment fee of 0.5% of the unused balance of the loan commitment.On the used portion of the revolver,it paid 1.5% above prime for the funds actually borrowed on a simple interest basis.The prime rate was 9% during the year.If the firm borrowed $6,000,000 immediately after the agreement was signed and repaid the loan at the end of 1 year,what was its total dollar cost for the year?

The calculated cost of trade credit can be reduced by paying late.

Which item should a company report directly in its monthly cash budget?

Miletkov Company's total assets fluctuate between $320,000 and $410,000,while its fixed assets remain constant at $260,000.If the firm follows a maturity matching,or moderate,working capital financing policy,what is the likely level of its long-term debt and equity financing?

Aggarwal Inc.buys on terms of 2/10,net 30,and it always pays on the 30th day.The CFO calculates that the average amount of costly trade credit carried is $375,000.What is the firm's average accounts payable balance? (Assume a 365-day year.)

Accruals are "free" capital in the sense that no explicit interest must be paid on accruals.

A firm buys on terms of 3/15,net 45 days.It does not take the discount,and it generally pays after 65 days.What is the nominal annual cost of its non-free trade credit,based on a 365-day year?

Which of the following is NOT a characteristic of factoring accounts receivable?

The relative profitability of a firm that employs an aggressive working capital financing policy will improve when the yield curve changes from upward sloping to downward sloping.