Deck 19: Short-Term Financial Planning

Question 1

A company that pays out a $2 million cash dividend will see a $2 million decrease in working capital.

Answer 1

True

Question 2

If a firm increases its accounts payable period, other things equal, it increases the cash conversion cycle.

Answer 2

False

Question 3

A cash conversion cycle is the period between a firm's payment for materials and collection on its sales.

Answer 3

True

Question 4

Net working capital will decrease when a firm buys raw materials on credit.

Question 5

A reduction in inventory levels would be considered a source of cash.

Question 6

A company that borrows $1 million long term and invests the proceeds in inventory will see its cash position unchanged.

Question 7

A company that sells $5 million of marketable securities for cash will see a $5 million increase in cash.

Question 8

A firm's inventory period can be estimated by the ratio of inventory to daily output.

Question 9

Currently, receivables account for the majority of the current assets of retail firms. Cash and short-term securities are more important for oil companies, and inventory makes up the bulk of the current assets of electronic companies.

Question 10

A company that receives a customer's payment of $2,500 for a previous sale will see no change in its net working capital.

Question 11

A company that borrows $1 million short term and invests the proceeds in inventory will see no change in its net working capital.

Question 12

A company that borrows $1 million long term and invests the proceeds in inventory will see a $1 million increase in its net working capital.

Question 13

When accounts payable exceed the sum of inventory and accounts receivable, net working capital must be negative.

Question 14

When financial managers are asked the key reason for choosing short-term rather than long-term debt, they often say that they try to match the maturities of the firm's assets and liabilities.

Question 15

A company that borrows $1 million short term and invests the proceeds in inventory will see its cash position unchanged.

Question 16

A company that sells $5 million of marketable securities for cash will see no change in its net working capital.

Question 17

It is possible for a firm to collect payment on a sale prior to paying its suppliers for the items sold.

Question 18

A company that pays $5,000 previously owed to one of its suppliers will see a $5,000 decrease in cash.

Question 19

Biotech firms require large amounts of cash if their drugs succeed in gaining regulatory approval. Therefore, these firms often have substantial cash holdings to fund their possible investment needs.

Question 20

A company that pays $5,000 previously owed to one of its suppliers will see no change in its net working capital.

Question 21

Interest rates for bank loans are frequently linked to either the London Interbank Offered Rate (LIBOR) or the Treasury bill rate.

Question 22

The factoring firm bears responsibility for default on accounts receivable purchased from a firm.

Question 23

The cost of issuing commercial paper is generally lower than that of a revolving line of credit.

Question 24

Some companies solve their financing problem by borrowing on the strength of their current assets; others solve it by selling their current assets.

Question 25

In field warehousing the inventory is kept by the:

A) borrowing firm.
B) lending institution.
C) independent warehousing company.
D)firm and the lender jointly.

Question 26

When a loan is secured by receivables, the firm assigns the receivables to the bank. If the firm fails to repay the loan, the bank can collect the receivables from the firm's customers and use the cash to pay off the debt. The risk of default on the receivables is now borne by the bank.

Question 27

An increase in accounts payable is a source of cash.

Question 28

An increase in long-term assets is a source of cash.

Question 29

An increase in current liabilities is a source of cash for the firm.

Question 30

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

A) inventory cycle.
B) matching cycle.
C) cash conversion cycle.
D)accounts receivable cycle.

Question 31

An increase in short-term interest rates will increase the carrying costs of the firm.

Question 32

Permanent working capital requirements are generally financed with commercial paper.

Question 33

A firm can reduce the cash conversion cycle by selling fewer goods on credit and more for cash.

Question 34

With a revolving line of credit, a firm can borrow and repay whenever it wants so long as the balance does not exceed the credit limit.

Question 35

Banks will not usually lend the full value of the assets that are used as security. The safety margin is likely to be even larger in the case of loans that are secured by inventory.

Question 36

When a loan is secured by receivables, the firm assigns the receivables to the bank. If the firm fails to repay the loan, the bank can collect the receivables from the firm's customers and use the cash to pay off the debt.

Question 37

The credit crisis of 2007 to 2009 largely left the market for commercial paper unaffected.

Question 38

Investments in marketable securities are generally a positive NPV investment for tax-paying firms.

Question 39

Once the firm has sold its receivables, the factor bears all the responsibility for collecting on the account.

Question 40

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

Question 41

Firms that continually invest in nontrivial 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 42

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)field warehousing.

Question 43

A firm had $2,800 cash at the beginning of the period. During the period, the firm collected $1,600 in receivables, paid $1,850 to supplier, had credit sales of $4,200, and incurred cash expenses of $2,300. What was the cash balance at the end of the period?

A) $4,450
B) $250
C) $2,850
D)$1,250

Question 44

A firm's permanent working capital refers to the:

A) difference between fixed assets and current assets.
B) maximum 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.

Question 45

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

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

Question 46

What is the cash conversion cycle for a firm with $3 million average inventories, $1.5 million average accounts payable, a receivables period of 40 days, and an annual cost of goods sold of $18 million?

A) 14.59 days
B) 46.25 days
C) 70.42 days
D)136.25 days

Question 47

Which one 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 48

Which one of the following would generally reduce the carrying costs of inventory?

A) Increasing the spoilage rate
B) Carrying more fad-sensitive goods
C) Experiencing a decrease in the overall interest rate
D)Increasing the need to sell securities

Question 49

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

A) reduces the risk of cash shortage.
B) will generally have lower interest expense.
C) improves the leverage ratio.
D)violates the principle of matched maturities.

Question 50

Which one of the following statements best describes the total capital requirement for most profitable firms?

A) The general trend in the total capital requirement is downward sloping.
B) The total capital requirement tends to be constant over long periods of time.
C) There are seasonal fluctuations around the total capital requirement trend.
D)The total capital requirement must be funded with short-term debt.

Question 51

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

A) It has a loss of net working capital.
B) It declares a net loss on the income statement.
C) It experiences a decrease in sales.
D)It experiences a decrease in its cash balance.

Question 52

Which one 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) At the height of demand, it will invest heavily in marketable securities.
C) It will borrow on both a long-term and a short-term basis.
D)It's long-term financing will approximately equal its total capital requirements.

Question 53

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

A) The firm may receive more favorable status from suppliers.
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 54

A revolving line of credit would be considered:

A) an agreement to borrow up to a specific total amount on demand from a bank.
B) a one-time short-term, unsecured, amortized loan.
C) a secured loan to be amortized over three to five years.
D)a long-term, permanent source of funding.

Question 55

A firm faces a liquidity crunch and must decide between borrowing from a bank at 12% interest or 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 56

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

A) are likely to maximize profits.
B) also decrease unnecessary trading costs.
C) may increase costs due to shortages.
D)engage in the matching of maturities.

Question 57

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)payoff all debts.

Question 58

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 short-term assets with short-term financing.
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 59

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 60

Assume beginning accounts receivables were $5,000, ending receivables were $4,000, and $20,000 was collected. What was the amount of sales for the period?

A) $19,000
B) $20,000
C) $21,000
D)$24,000

Question 61

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 62

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 63

Which one 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 a reduced sales price.
D)Factoring may be the cheapest method of avoiding a cash flow problem.

Question 64

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)27.43%

Question 65

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 66

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%

Question 67

What is the accounts payable period given 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

Question 68

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

A) 76.56 days
B) 18.75 days
C) 53.33 days
D)68.44 days

Question 69

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 70

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 net working capital.

Question 71

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)present only during slack periods of the year.

Question 72

Which one of these is most associated with a disadvantage of 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 73

Which one of the following is a use of cash?

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

Question 74

If the statement of sources and uses of cash shows a decrease in the cash balance, an increase in which one of the following might have eliminated that decrease?

A) Cash dividends paid
B) Accounts payable
C) Accounts receivable
D)Inventory

Question 75

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 76

A firm's inventory and accounts payable periods are 80 and 42 days, respectively. How long must the firm's receivables period be in order to limit the cash conversion cycle to 65 days?

A) 27 days
B) 38 days
C) 57 days
D)103 days

Question 77

Which type of inventory would a bank be most willing to accept as security for a loan?

A) Wheat growing in a farmer's field
B) Produce on the shelves of a grocery store
C) Boats owned by a boat dealer
D)Work-in-progress in an appliance manufacturing firm

Question 78

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

A) Short-term maturity
B) Non-bank borrower
C) Secured loan
D)High credit quality borrower

Question 79

Which one of these statements correctly applies to the carrying costs of cash balances?

A) Cash balances have no carrying costs.
B) The opportunity costs of cash exceed their carrying costs.
C) Cash balances incur an opportunity cost.
D)Cash balances only have a carrying cost if they are negative.

Question 80

How high can accounts receivable be 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