Deck 19: Working Capital Management

Question 1

Which of the following statements is FALSE?

A)The firm's cash cycle is the average length of time between when a firm originally purchases its inventory and when it receives the cash back from selling its product.
B)If the firm pays cash for its inventory, the firm's operating cycle is identical to the firm's cash cycle.
C)The main components of net working capital are cash, inventory, receivables and payables.
D)Working capital includes the cash that is needed to run the firm on a day-to-day basis. It does not include excess cash, which is cash that is not required to run the business and can be invested at a market rate.

Answer 1

The firm's cash cycle is the average length of time between when a firm originally purchases its inventory and when it receives the cash back from selling its product.

Question 2

Macrae Products, a manufacturer of building products, buys raw gypsum on credit on 16 May. It processes this gypsum to make dry plaster powder on 20 May and pays cash for the raw gypsum on 30 May. On 7 June it sells the dry plaster powder to a chain of hardware stores, and on 21 June receives cash payment for this sale. What is the length of the cash cycle in this case?

A)23 days
B)22 days
C)8 days
D)14 days

Answer 2

22 days

Question 3

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Luther's 'Accounts Payable' days figure is closest to:

A)59 days.
B)42 days.
C)48 days.
D)46 days.

Answer 3

48 days.

Question 4

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Which of the following would decrease a firm's cash conversion cycle?

A)increase the accounts payable days
B)increase the accounts receivable days
C)increase the inventory days
D)increase the cash days

Question 5

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Luther's 'Inventory' days figure is closest to:

A)72 days.
B)79 days.
C)62 days.
D)82 days.

Question 6

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Luther's 'cash conversion cycle' is closest to:

A)71 days.
B)64 days.
C)66 days.
D)129 days.

Question 7

The cash conversion cycle (CCC)is defined as

A)Inventory Days + Accounts Receivable Days + Accounts Payable Days.
B)Inventory Days + Accounts Payable Days - Accounts Receivable Days.
C)Inventory Days - Accounts Receivable Days - Accounts Payable Days.
D)Inventory Days + Accounts Receivable Days - Accounts Payable Days.

Question 8

Working capital alters a firm's value by affecting its free cash flow.

Question 9

Which of the following statements is FALSE?

A)A firm's cash cycle is the length of time between when the firm pays cash to purchase its initial inventory and when it receives cash from the sale of the output produced from that inventory.
B)Any reduction in working capital requirements generates a positive free cash flow that the firm can distribute immediately to shareholders.
C)Most firms buy their inventory on credit, which increases the amount of time between the cash investment and the receipt of cash from that investment.
D)The longer a firm's cash cycle, the more working capital it has, and the more cash it needs to carry to conduct its daily operations.

Question 10

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Luther's 'Accounts Receivable' days figure is closest to:

A)39 days.
B)40 days.
C)59 days.
D)42 days.

Question 11

Which of the following is a firm's 'operating cycle'?

A)the average length of time between when a firm originally purchases its inventory and when it receives the cash back from selling its product
B)the average length of time between when a firm originally purchases its inventory and when it pays cash for that inventory
C)the average length of time between when a firm pays cash to purchase its initial inventory and when it receives cash from the sale of the product produced from that inventory
D)the average length of time between when a firm originally purchases its inventory and when it sells the product produced from that inventory

Question 12

Firms typically would prefer a negative cash conversion cycle versus a positive cash conversion cycle.

Question 13

Which of the following firms would be expected to need the most cash to conduct its daily operations?

A)a retail grocery store that sells on a cash only basis
B)an airline that has many of its fares prepaid by cash or credit card
C)an electronics manufacturer that only assembles its goods once they have been paid for
D)an aircraft manufacturer with large inventory and long development and sales cycles

Question 14

'Working capital management' involves the management of short-term asset accounts such as cash, inventory and accounts receivable, as well as short-term liability accounts such as accounts payable.

Question 15

The difference between a firm's operating cycle and its cash cycle is

A)its accounts receivable days.
B)its inventory days.
C)its accounts payable days.
D)There is no difference between the cash and operating cycles.

Question 16

Which of the following is a firm's 'cash cycle?

A)the average length of time between when a firm pays cash to purchase its initial inventory and when it receives cash from the sale of the product produced from that inventory
B)the average length of time between when a firm pays cash to purchase its initial inventory and when it sells that product
C)the average length of time between when a firm originally purchases its inventory and when it receives the cash back from selling its product
D)the average length of time between when a firm originally purchases its inventory and when it sells the product produced from that inventory

Question 17

Franklin Industries has a current net working capital of $2.5 million. It expects that this will grow at a rate of 3.5% annually forever. If it could slow that growth to 3% per year, how would that affect the value of the firm, given that it has a cost of capital of 11%?

A)an increase of $2.08 million
B)a decrease of $2.22 million
C)an increase of $12 500
D)an increase of $0.78 million

Question 18

Genovese Fine Foods, a manufacturer of foodstuffs, buys Durham wheat flour on credit on 1 June. It processes this flour to make pasta on 6 June and pays cash for the flour on 15 June. On 22 June it sells the pasta to a chain of supermarkets, and on 3 July receives cash payment for this sale. What is the length of the cash cycle in this case?

A)28 days
B)18 days
C)8 days
D)12 days

Question 19

A firm's cash cycle cannot be greater than a firm's operating cycle.

Question 20

Jeffrey Industries has inventory days of 50, accounts receivable days of 22, and accounts payable days of 30. What is its cash conversion cycle?

A)42 days
B)49 days
C)57 days
D)52 days

Question 21

A firm tries to extend its disbursement float in order to reduce its working capital needs. Which of the following is a risk that may be associated with this strategy, if it is taken too far?

A)may attract a late fee
B)may jeopardise the entire relationship with the supplier
C)may be required to pay before delivery for future supplies
D)all of the above

Question 22

A collection float is made up of all of the following EXCEPT:

A)availability float
B)disbursement float
C)processing float
D)mail float

Question 23

Which of the following best describes the 'collection float'?

A)how long it takes for a firm to be able to use funds after a customer has paid for its goods
B)how long it takes before the bank gives the firm credit for the funds
C)how long it takes the firm to process the cheque and deposit it in the bank
D)how long it takes the firm to receive the cheque after the customer has mailed it

Question 24

What is meant by the term '1.5/14 net 30'?

A)If the invoice is paid within 14 days, a discount of 1.5 percent can be taken; otherwise the invoice is due in 30 days.
B)If the invoice is paid right away, a discount of 14 percent can be taken; otherwise a discount of 1.5 percent can be taken if paid within the next 30 days.
C)If the invoice is paid within 30 days, a discount of 14 percent can be taken; otherwise the invoice is due 14 days after that day.
D)If the invoice is paid within 1.5 days, a discount of 14 percent can be taken; otherwise the invoice is due in 30 days.

Question 25

What is a firm's 'operating cycle'?
_____________________________________________________________________________________________
_____________________________________________________________________________________________

Question 26

A firm offers its customers 3/5 net 25. What is the cost of trade credit to a customer who chooses to pay on day 25?

A)68.4%
B)32.3%
C)65.5%
D)74.3%

Question 27

A firm offers its customers 2/14 net 28. What is the cost of trade credit to a customer who chooses to pay on day 28?

A)72.4%
B)32.8%
C)67.3%
D)69.3%

Question 28

The 'cash discount' is the percentage discount offered if the buyer pays early.

Question 29

Which of the following best describes the availability float?

A)how long it takes before payments to suppliers actually result in a cash outflow for the firm
B)how long it takes before the bank gives the firm credit for the funds
C)how long it takes the firm to process the check and deposit it in the bank
D)how long it takes for a firm to be able to use funds after a customer has paid for its goods

Question 30

A 'collection float' is the amount of time it takes for a firm to be able to use funds after a customer has paid for its goods.

Question 31

A 'collection float' is the amount of time it takes for a firm to be able to use funds after a customer has paid for its goods.

Question 32

What is 'trade credit'?

A)the amount a firm is owed by its customers who have received goods and services but have not yet paid for them
B)the percentage discount offered to a customer who opts to pay their account early
C)the credit that a firm extends to its customers
D)the amount that a firm owes its suppliers for goods which it has received but for which it has not yet paid

Question 33

Use the table for the question(s)below.
Luther Enterprises Ltd had sales of $850 million and a cost of goods sold of $500 million in 2016.
A simplified balance sheet for the firm appears below:
Which of the following would increase a firm's cash conversion cycle?

A)increase inventory days
B)decrease accounts receivable days
C)increase cash days
D)increase accounts payable days

Question 34

The 'credit period' is the number of days the buyer gets to take advantage of the cash discount.

Question 35

Trade credit should always be used when it is offered.

Question 36

Which of the following statements is FALSE?

A)One factor that contributes to the length of a firm's receivables and payables is the delay between the time a bill is paid and the cash is actually received.
B)The credit that the firm is extending to its customer is known as trade credit.
C)Collection float is the amount of time it takes before payments to suppliers actually result in a cash outflow for the firm.
D)Under the Modigliani-Miller assumptions of perfect capital markets, the amounts of payables and receivables are irrelevant.

Question 37

A firm offers its customers 1/10 net 40. What is the cost of trade credit to a customer who chooses to pay on day 40?

A)13.0%
B)12.8%
C)96.0%
D)65.5%

Question 38

Which of the following statements is FALSE?

A)Trade credit is, in essence, a loan from the selling firm to its customer.
B)The accounts receivable balance represents the amount that a firm owes its suppliers for goods that it has received but for which it has not yet paid.
C)The transaction costs for obtaining trade credit are lower than alternative financing options.
D)Providing financing at below-market rates is an indirect way to lower prices for only certain customers.

Question 39

What is a firm's 'cash cycle'?
_____________________________________________________________________________________________
_____________________________________________________________________________________________

Question 40

The 'discount period' is the number of days the buyer gets to take advantage of the cash discount.

Question 41

Which one of the following is NOT one of the three steps involved in establishing a credit policy?

A)establishing a collection policy
B)establishing credit terms
C)establishing credit payment patterns
D)establishing credit standards

Question 42

SwenCorp had sales of $154 million this year and an average accounts receivable of $18 million per day. Its credit terms specify '2/14 net 40'. On average, how long does it take to collect on its sales?

A)8.5 days
B)13 days
C)43 days
D)28 days

Question 43

A firm currently sells its product with a 2% discount to customers who pay by cash or credit card when they purchase one of the firm's products; otherwise, the full price is due within 30 days. Forty percent of customers take advantage of the discount. The firm plans to drop the discount so the new terms will simply be net 30. In doing so it expects to sell 100 fewer units per month and all customers to pay at day 30. The firm currently sells 1 000 units per month at a cost per unit of $45 and a selling price per unit of $80. If the firm's required return is 2%, what is the net present value (NPV)of making this change?

A)-$169 860
B)$64 490
C)-$122 420
D)$172 320

Question 44

A firm should choose to borrow using accounts payable only if trade credit is the cheapest source of funding.

Question 45

The three steps in establishing a credit policy are: establishing credit standards, establishing credit terms and establishing a collection policy.

Question 46

What should a firm do after establishing a credit policy?

A)Determine what percent of monthly sales are collected in the month after that sale.
B)Decide on the length of the period before payment must be made.
C)Monitor its accounts receivable to analyse whether its credit policy is effective.
D)Decide what should be done for those customers who do not pay their accounts on time.

Question 47

What are 'The 5 Cs of Credit'?
_____________________________________________________________________________________________
_____________________________________________________________________________________________

Question 48

Which of the following statements is FALSE?

A)Because accounts receivable days can be calculated from the firm's financial statement, outside investors commonly use this measure to evaluate a firm's credit management policy.
B)Seasonal sales patterns may cause the number calculated for the accounts receivable days to change depending on when the calculation takes place.
C)The ageing schedule is also sometimes augmented by analysis of the payments pattern, which provides information on the percentage of monthly sales that the firm collects in each month after the sale.
D)If the ageing schedule gets 'top-heavy'-that is, if the percentages in the upper half of the schedule begin to increase-the firm will likely need to revisit its credit policy.

Question 49

What is the meaning of the term '2/10 net 30'?

A)If the invoice is paid within 10 days, a 2% discount can be taken. If the invoice is paid between 11 and 29 days a 1% discount can be taken. After 30 days the full invoice is due.
B)If the invoice is paid within 10 days, a 2% discount can be taken; otherwise the full invoice is due in 30 days.
C)If the invoice is paid within 2 days, a 10% discount can be taken; otherwise the full invoice is due in 30 days.
D)If the invoice is paid within 2 days, a 10% discount can be taken; otherwise a 2% discount can be taken if the invoice is paid in 30 days.

Question 50

Which of the following are the '5 Cs of Credit'?

A)Character, Capacity, Compensation, Collateral, Conditions
B)Character, Cash, Credit, Collateral, Collectability
C)Cash, Capacity, Capital, Compensation, Collectability
D)Character, Capacity, Capital, Collateral, Conditions

Question 51

Which of the following statements is FALSE?

A)After a firm decides on its credit standards, it must next establish its credit terms.
B)An ageing schedule categorises accounts by the number of days they have been on the firm's books.
C)The decision of how much credit risk to assume plays a large role in determining how much money a firm ties up in its payables.
D)Knowledge of the payments pattern is also useful for forecasting the firm's working capital requirements.

Question 52

Jen Industries had sales of $32 million this year and an average accounts receivable of $0.8 million per day. On average, how long does it take to collect on its sales?

A)11 days
B)19 days
C)12 days
D)9 days

Question 53

Commercial Supply Corp. bills its accounts on terms of 2/10 net 30. The firm's accounts receivable include $200 000 that has been outstanding for ten or fewer days, $126 000 outstanding for 11 to 30 days, $98 000 outstanding for 31 to 40 days, $12 000 outstanding for 41 to 50 days, $20 000 outstanding for 51 to 60 days, and $7 000 outstanding for more than 60 days. Is the ageing schedule for Commercial Supply Corp. bottom heavy?

A)No, since 70% of the outstanding sales are on time and the percentage of long-term outstanding payments is low.
B)No, since the percentage of payments that are late are greater than the percentage of payments that are on time.
C)Yes, since the percentage of payments that are late are greater than the percentage of payments that are on time.
D)Cannot tell from the information given.

Question 54

If a firm typically chooses to stretch its accounts payable their supplier may demand COD or CBD in future.

Question 55

The Holiday Corporation had sales of $450 million this year. Its accounts receivable balance averaged $30 million. How long, on average, does it take the firm to collect on its sales?

A)12.2 days
B)15.0 days
C)16.7 days
D)24.3 days

Question 56

Which of the following is a component of disbursement float but NOT a component of collection float?

A)mail float
B)cheque-clearing float
C)availability float
D)processing float

Question 57

A firm's credit terms specify '1/10 net 30' and the accounts receivable days outstanding is 32 days. Which of the following can be concluded on the basis of this information?

A)All customers pay late.
B)All customers have paid within 32 days of purchase.
C)The average customer pays two days late.
D)Most customers pay on time.

Question 58

Your firm purchases goods from its supplier on terms of 1/10 net 30. The effective annual cost to your firm if it chooses NOT to take advantage of the trade discount offered is closest to:

A)13.0%.
B)16.8%.
C)44.6%.
D)20.1%.

Question 59

A firm that chooses a low-risk, restrictive credit policy will tend to have a larger investment in receivables.

Question 60

Which of the following is NOT an advantage of trade credit versus a standard loan?

A)Trade credit reduces a firm's collection float.
B)The supplier may have more information about the credit quality of the customer than a bank.
C)Providing financing at below-market rates is an indirect way to lower prices for only certain customers.
D)If the buyer defaults, the supplier may be able to seize the inventory as collateral.

Question 61

If a supplier is offering trade credit of 1/10 net 30, and a buyer chooses not to take the discount, when should they pay, assuming that they wish to stay on good terms with the supplier?

A)any time before day 10
B)on day 30
C)any time after day 30
D)on day 10

Question 62

What is the effective annual cost of credit terms of 2/20 net 60, if the firm stretches the accounts payable to 80 days?

A)13.1%
B)34.2%
C)21.1%
D)6.4%

Question 63

What is the effective annual cost of credit terms of 3/15 net 30, if the firm stretches the accounts payable to 60 days?

A)3.35%
B)28.03%
C)12.65%
D)1.7%

Question 64

Your firm purchases goods from its supplier on terms of 2/10, net 40. The effective annual cost to your firm if it chooses not to take advantage of the trade discount offered and stretches the accounts payable to 60 days is closest to:

A)13.0%.
B)15.9%.
C)20.1%.
D)11.1%.

Question 65

Which of the following statements is FALSE?

A)Suppliers may react to a firm whose payments are always late by imposing terms of cash on delivery (COD)or cash before delivery (CBD).
B)Some firms ignore the payment due period and pay later, in a practice referred to as 'pushing the accounts payable'.
C)Similar to the situation with its accounts receivable, a firm should monitor its accounts payable to ensure that it is making its payments at an optimal time.
D)If the accounts payable outstanding is 40 days and the terms are 2/10 net 30, the firm can conclude that it generally pays late and may be risking supplier difficulties.

Question 66

What is the effective cost of credit terms of 3/5 net 45 if the firm stretches the accounts payable to 60 days?

A)12.9%
B)39.9%
C)35.6%
D)22.4%

Question 67

What is the effective annual cost of credit terms of 1/10 net 30, if the firm stretches the accounts payable to 45 days?

A)18.03%
B)8.49%
C)11.05%
D)10.91%

Question 68

Effective inventory management builds up assets through increases in inventory and thus increases a firm's value.

Question 69

LeokLee Industries has an average accounts payable balance of $720 000. Its average annual cost of goods sold is $8 760 000. It receives terms of 1/10 net 30 from its suppliers. Is LeokLee managing its accounts payables well?

A)Yes, since it, on average, chooses not to take the discount, but pays when payment is due.
B)Yes, since it, on average, takes the discount, and pays at the end of the discount period.
C)Yes, since it, on average, stretches payment beyond the payment due date.
D)No, since it, on average, does not take advantage of the discount period and pays well before payment is due.

Question 70

Evertz Metals buys and stockpiles dolomite to use in its smelting processes. Before all this dolomite is used, however, it alters the smelting process so that calcite limestone is used instead. How is the inventory cost of the unused dolomite best categorised?

A)an acquisition cost
B)a holding cost
C)an order cost
D)a carrying cost

Question 71

Which of the following is NOT a benefit of holding inventory?

A)It minimises order cost from placing multiple orders throughout the year.
B)It minimises risks involved in spoilage and obsolescence.
C)It can capitalise on seasonality in demand patterns.
D)It helps minimise the risk that the firm will not be able to obtain an input it needs for production.

Question 72

The primary advantage of holding inventory is to minimise the risk of stock-outs and seasonality in demand.

Question 73

A firm has an average accounts payable balance of $180 000. Its average daily cost of goods sold is $12 000. What is the average number of days that the firm takes to pay its debt?

A)2 days
B)15 days
C)8 days
D)21 days

Question 74

Your firm purchases goods from its supplier on terms of 1/10 net 30. The effective annual cost to your firm if it chooses not to take advantage of the trade discount offered and stretches the accounts payable to 45 days is closest to:

A)11.1%.
B)20.1%.
C)15.9%.
D)13.0%.

Question 75

Evertz Metals buys and stockpiles $4 000 000 worth of dolomite to use in its smelting processes. How is this inventory cost best categorised?

A)a holding cost
B)a carrying cost
C)an acquisition cost
D)an order cost

Question 76

Bercraft Industries has an average accounts payable balance of $280 000. Its average annual cost of goods sold is $4 780 000. It receives terms of 1/20 net 40 from its suppliers. Is Bercraft managing its accounts payables well?

A)Yes, since it, on average, chooses not to take the discount, but pays when payment is due.
B)Yes, since it, on average, takes the discount and pays at the end of the discount period.
C)Yes, since it, on average, stretches payment beyond the payment due date.
D)No, since it, on average, does not take advantage of the discount period and pays well before payment is due.

Question 77

Ally Manufacturing has an average accounts payable balance of $420 000. Its average annual cost of goods sold is $10 220 000. It receives terms of 2/15 net 30 from its suppliers. Is Ally managing its accounts payable well?

A)Yes, since it, on average, chooses not to take the discount, but pays when payment is due.
B)Yes, since it, on average, takes the discount, and pays at the end of the discount period.
C)Yes, since it, on average, stretches payment beyond the payment due date.
D)No, since it, on average, does not take advantage of the discount period and pays well before payment is due.

Question 78

What is the effective cost of credit terms of 2/10, net 30 if the firm stretches the accounts payable to 45 days?

A)44.59%
B)49.76%
C)36.12%
D)23.37%

Question 79

Which of the following statements is FALSE?

A)The lower the discount percentage offered, the greater the cost of forgoing the discount and using trade credit.
B)A firm should always pay on the latest day allowed.
C)A firm should strive to keep its money working for it as long as possible without developing a bad relationship with its suppliers or engaging in unethical practices.
D)A firm should choose to borrow using accounts payable only if trade credit is the cheapest source of funding.

Question 80

Which of the following is/are direct costs associated with inventory? I. Acquisition costs
II. Carrying costs
III. Order costs

A)I and II
B)II and III
C)I only
D)I, II, and III