Deck 30: Working Capital Management

Question 1

When credit is offered with only the invoice as a formal instrument of credit, the credit procedure is called an

A)invoice account.
B)open account.
C)unsecured account.
D)unsecured note.

Answer 1

open account.

Question 2

In the EOQ inventory model, the optimal order size is achieved when

A)carrying costs > order costs.
B)carrying costs < order costs.
C)carrying costs = order costs.
D)There is no optimal order size as a smaller size is always better.

Answer 2

carrying costs = order costs.

Question 3

Suppose you purchase goods on terms of 2/10, net 50.Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A)2 percent
B)20.2 percent
C)10.2 percent
D)18.6 percent

Answer 3

20.2 percent

Question 4

Suppose you purchase goods on terms of 3/10, net 60.Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A)32 percent
B)25 percent
C)91 percent
D)28.2 percent

Question 5

Which of the following trade credit terms is not valid?

A)3/10, net 50
B)8/10, EOM, net 60
C)2/10, net 30
D)All of these options are valid credit terms.

Question 6

The High-Rise Building Company uses 400,000 tons of stone per year.The carrying costs are $100/ton.The cost per order is $500.Calculate the total costs of optimal inventory.

A)$200,000
B)$150,000
C)$100,000
D)$50,000

Question 7

The net credit period for a company with terms of 3/10, net 60 is

A)50 days.
B)60 days.
C)10 days.
D)57 days.

Question 8

If a firm grants credit with terms of 3/10, net 30, the customer

A)must pay a penalty of 3 percent when payment is made in more than 10 days after the sale.
B)must pay a penalty for 10 percent when payment is made in more than 3 days after the sale.
C)receives a discount of 3 percent when payment is made in less than 10 days after the sale.
D)receives a discount of 10 percent when payment is made in less than 3 days after the sale.

Question 9

Suppose you purchase goods on terms of 1/10, net 30.Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A)9.6 percent
B)9.2 percent
C)20.1 percent
D)44.6 percent

Question 10

The costs of holding inventory include

A)carrying cost.
B)carrying cost and order cost.
C)insurance cost.
D)carrying cost, order cost, and insurance cost.

Question 11

Accounts receivable include

A)trade credit.
B)consumer credit.
C)inventories.
D)trade credit and consumer credit.

Question 12

Firms employ the following types of inventories:

A)raw material.
B)work in process.
C)finished goods.
D)All of these options are correct.

Question 13

The High-Rise Building Company uses 400,000 tons of stone per year.The carrying costs are $100/ton.The cost per order is $500.Calculate the economic order quantity per order.

A)1,000 tons
B)2,000 tons
C)3,000 tons
D)4,000 tons

Question 14

The High-Rise Building Company uses 400,000 tons of stone per year.The carrying costs are $100/ton.The cost per order is $500.Calculate the optimal annual order costs.

A)$200,000
B)$100,000
C)$50,000
D)$150,000

Question 15

Which of the following transaction(s) involve(s) credit?

A)COD
B)COD and CBD
C)CBD
D)2/30, net 60 and 2/10, EOM, net 60

Question 16

When a firm grants credit to a customer, this gives rise to a(n)

A)accounts receivable.
B)COD.
C)CBD.
D)COD and CBD.

Question 17

The High-Rise Building Company (HRBC) uses 400,000 tons of stone per year.The carrying costs are $100/ton.The cost per order is $500.Calculate the optimal carrying costs.(Assume a linear usage rate and that HRBC runs its inventory down close to zero as the replenishment order arrives.)

A)$200,000
B)$100,000
C)$75,000
D)$50,000

Question 18

A trade acceptance, when immediate payment is not required, is a(n)

A)sight draft.
B)time draft.
C)bill of lading.
D)open account.

Question 19

The economic order quantity (EOQ) is calculated using

A)Q = √[(2 × sales × cost per order)/(carrying cost)].
B)Q = √[(2 × sales × carrying cost)/(cost per order)].
C)Q = √(2 × sales × cost per order × carrying cost).
D)None of these options are correct.

Question 20

The High-Rise Building Company uses 400,000 tons of stone per year.The carrying costs are $100/ton.The cost per order is $500.Calculate the optimal number of orders per year.

A)400
B)100
C)200
D)300

Question 21

In the United States, large-value electronic payments are made through

A)Fedwire.
B)ACH.
C)CHIPS.
D)Fedwire and CHIPS.

Question 22

In the United States, export business is insured by

A)the Export-Import Bank in association with Foreign Credit Insurance Association (FCIA).
B)Citibank.
C)the SBA.
D)the U.S.Department of the Treasury.

Question 23

The following are the main methods that firms use to send and receive money electronically:

A)direct payments.
B)direct deposits.
C)wire transfers.
D)All of these options are correct.

Question 24

A customer has ordered goods generating a present value of $800.The present value of production costs is $600.Under what conditions should you extend credit if there is no possibility of repeat orders?

A)If the probability of payment exceeds 0.67
B)If the probability of payment exceeds 0.80
C)If the probability of payment exceeds 0.75
D)If the probability of payment exceeds 0.90

Question 25

A customer has ordered goods generating a present value of $2,000.The present value of production costs is $1,800.Under what conditions should you extend credit if there is no possibility of repeat orders?

A)If the probability of payment exceeds 0.67
B)If the probability of payment exceeds 0.75
C)If the probability of payment exceeds 0.80
D)If the probability of payment exceeds 0.90

Question 26

Which of the following is a real-time gross settlement system?

A)Fedwire
B)CHIPS
C)ACH
D)All of these options are real-time gross settlement systems.

Question 27

The default rate of Don's new customers has been running at 20 percent.The average sale for each new customer amounts to $500, generating a present value of profit of $200 and a 30 percent chance of a second order next year.The default rate on second orders is only 5 percent.If the interest rate is 6 percent, what is the expected profit from each new customer?

A)$152.50
B)$149.53
C)$275
D)$139.62

Question 28

Which of the following statements is true?

A)New companies must be prepared to incur more bad debts than established businesses as part of the cost of building up a good-customers list.
B)Generally, repeat orders warrant easier credit terms.
C)Companies with high profit margins need to be particularly careful about extending credit to high-risk customers.
D)New companies must be prepared to incur more bad debts than established businesses as part of the cost of building up a good-customers list, and, generally, repeat orders warrant easier credit terms.

Question 29

Tom's Toys is currently experiencing a bad debt ratio of 6 percent.Tom is convinced that, with tighter credit controls, he can reduce this ratio to 2 percent; however, he expects sales to drop by 8 percent as a result.The cost of goods sold is 75 percent of the selling price.Per $100 of current sales, what is Tom's expected profit under the proposed credit standards?

A)$15.20
B)$23
C)$19
D)$21.20

Question 30

The following are advantages of electronic payment systems except

A)record keeping is easy.
B)the marginal cost of transaction is low.
C)float is drastically reduced.
D)the initial investment is high.

Question 31

A commercial draft can be a(n)

A)sight draft.
B)time draft.
C)overdraft.
D)sight draft and time draft.

Question 32

Terry's Place is currently experiencing a bad debt ratio of 4 percent.Terry is convinced that, with looser credit controls, this ratio will increase to 8 percent; however, she expects sales to increase by 10 percent as a result.The cost of goods sold is 80 percent of the selling price.Per $100 of current sales, what is Terry's expected profit under the proposed credit standards?

A)$26
B)$15.40
C)$13.20
D)$25.60

Question 33

The following are electronic funds transfer systems available in the United States except

A)Fedwire.
B)CHIPS.
C)SWIFT.
D)ACH.

Question 34

A customer has ordered goods generating a present value of $1,200.The present value of production costs is $800.Under what conditions should you extend credit if there is no possibility of repeat orders?

A)If the probability of payment exceeds 0.67
B)If the probability of payment exceeds 0.75
C)If the probability of payment exceeds 0.80
D)If the probability of payment exceeds 0.90

Question 35

The default rate of Demurrage Associates' new customers has been running at 10 percent.The average sale for each new customer amounts to $800, generating a present value of profit of $100 and a 40 percent chance of a second order next year.The default rate on second orders is only 2 percent.If the interest rate is 9 percent, what is the expected profit from each new customer? (Examine only the first two periods of potential orders.)

A)$88.70
B)$47.74
C)$43.25
D)$50.83

Question 36

Factoring refers to

A)determining the aging schedule of the firm's accounts receivable.
B)the sale of a firm's accounts receivable to another firm.
C)the determination of the average collection period.
D)scoring a customer based on the 5 Cs of credit.

Question 37

In the United States, small-value electronic transfers are made through

A)Fedwire.
B)ACH.
C)CHIPS.
D)Fedwire and CHIPS.

Question 38

Which of the following statements regarding "bankers' acceptances" is true?

A)Bankers' acceptances are used in overseas trading.
B)Bankers' acceptances are bought and sold on a discount basis.
C)Bankers' acceptances are guaranteed by the bank.
D)Bankers' acceptances are used in overseas trading, bankers' acceptances are bought and sold on a discount basis, and bankers' acceptances are guaranteed by the bank.

Question 39

Which of the following countries is the heaviest user of checks?

A)The United States
B)The UK
C)Brazil
D)Canada

Question 40

Companies frequently use information from the following sources when conducting their credit analysis:

A)the financial statement supplied by the customer.
B)the payment history supplied by other firms.
C)the payment history supplied by other firms and the payment history supplied by banks.
D)the financial statement supplied by the customer, the payment history supplied by other firms, and the payment history supplied by banks.

Question 41

A large firm may hold substantial cash balances because

A)these balances are required by the bank in the form of compensating balances.
B)the company may have accounts in many different banks.
C)the company may have a very decentralized organization.
D)All of these options are correct.

Question 42

"Eurodollars" or "international dollars" are

A)dollars deposited in banks outside the United States.
B)dollars deposited in the United States by foreigners.
C)dollars held by foreign governments.
D)euros or international currency deposited in U.S.branches of foreign banks.

Question 43

If the short-term commercial paper rate is 6 percent and the corporate tax rate is 35 percent, what yield would a corporation require on an investment in auction-rate preferred stock? Assume the default risk is the same as for commercial paper.

A)6 percent
B)39 percent
C)9.2 percent
D)4.4 percent

Question 44

A repurchase agreement occurs when

A)a company agrees to buy back its commercial paper before maturity.
B)a bank depositor agrees, in advance, to reinvest money in a negotiable certificate of deposit.
C)an investor buys part of a government security dealer's inventory and simultaneously agrees to sell it back.
D)the federal government agrees to buy T-bills.

Question 45

A municipal variable rate demand bond (VRDB)

A)is a long-term security.
B)is a long-term security and has interest payments linked to the level of short-term interest rates.
C)is a long-term security, has interest payments linked to the level of short-term interest rates, and may periodically be sold back to the issuer at face value.
D)is a long-term security, has interest payments linked to the level of short-term interest rates, may periodically be sold back to the issuer at face value, and is tax-exempt.

Question 46

Suppose that a firm sells goods on terms of 2/30, net 60.Those customers who do not take the cash discount are effectively borrowing money at approximately 2 percent per year.

Question 47

Which of the following have the most developed secondary market?

A)Treasury bills
B)Commercial paper
C)Repurchase agreements
D)Bankers' acceptances

Question 48

The discount on a 91-Treasury bill is 5.65 percent.What is the annually compounded rate of return? (Assume a 360-day discount basis.)

A)5.2 percent
B)5.9 percent
C)5.6 percent
D)5.5 percent

Question 49

Auction-rate preferred stock offers competitive rates of return with traditional money market instruments but

A)is not rated by Moody's or Standard & Poor's.
B)still provides the corporate investor with the tax exclusion on dividend income.
C)has a fixed rate of dividend income.
D)offers a highly competitive trading market.

Question 50

Firms that receive a large volume of checks use the following to speed up availability of funds:

A)concentration banking.
B)retail banking.
C)money market deposit account.
D)None of these options are correct.

Question 51

The following are money market instruments except

A)T-bills.
B)federal agency discount notes.
C)commercial paper.
D)preferred stocks.

Question 52

The discount on a 91-Treasury bill is 5.2 percent.What is the annually compounded rate of return? (Assume a 360-day discount basis.)

A)4.8 percent
B)5.2 percent
C)5.4 percent
D)5 percent

Question 53

The main advantage of using a netting system to settle foreign currency payments is that it

A)drastically reduces the number of payments.
B)increases the number of payments.
C)reduces the number of foreign currencies.
D)None of these options are correct.

Question 54

A tax-paying corporation would prefer to invest short-term money in

A)warrants.
B)auction-rate preferred stock.
C)common stock.
D)long-term bonds.

Question 55

If the short-term commercial paper rate is 10 percent and the corporate tax rate is 35 percent, what yield would a corporation require on an investment in auction-rate preferred stock? Assume the default risk is the same as for commercial paper.

A)15.2 percent
B)10 percent
C)7.3 percent
D)6.6 percent

Question 56

As an example of trade credit terms, "3/10, EOM, net 60" is not valid.

Question 57

The market for short-term investments is called

A)capital market.
B)stock market.
C)bond market.
D)money market.

Question 58

Negotiable CDs are issued by

A)the U.S.government.
B)federal agencies.
C)banks.
D)corporations.

Question 59

If goods are sold on an open account, the customer is asked to sign an IOU.

Question 60

The most common cash management technique used to speed up collections is

A)wire transfers.
B)lockboxes.
C)in-house processing.
D)SWIFT.

Question 61

Bankers' acceptances are used in overseas trade.

Question 62

A factor buys a firm's receivables, and then the firm's customer makes payments directly to the factor.

Question 63

What is the main objective of a collection policy?

Question 64

Direct deposits are processed through Automated Clearing House (ACH) system.

Question 65

What is the effective annual cost of not taking a discount under terms 3/30, net 60?

Question 66

Discuss two important ways of speeding up collection.

Question 67

One good reason to hold cash is that cash provides more liquidity than other marketable securities.

Question 68

Discuss the general principles that should be used for credit decisions.

Question 69

Briefly describe the most widely used commercial credit instruments.

Question 70

If a commercial draft is an order to pay immediately, it is called a time draft.

Question 71

Concentration banking is used to slow down disbursements.

Question 72

What are the major objectives of credit management?

Question 73

Fedwire is a system that transfers money between banks.

Question 74

A commercial draft is simply an order to pay.

Question 75

The market for short-term investments is known as the capital market.

Question 76

In the United States, export credit insurance is provided by the Export-Import Bank in association with a group of insurance companies known as the Foreign Credit Insurance Association (FCIA).

Question 77

Briefly explain different terms of sale used in practice.

Question 78

Briefly explain the process of factoring accounts receivables.

Question 79

Briefly explain how firms can protect against bad debt.

Question 80

Lockbox systems are used to speed up collections.