Deck 14: Working Capital Management

Question 1

If carrying costs are less than shortage costs, then the firm will maximize value by adopting a more restrictive strategy.

Answer 1

False

Question 2

Working capital efficiency refers to the length of time it takes for a firm to convert the raw material to a finished product.

Answer 2

False

Question 3

If shortage costs dominate carrying costs, the firm will need to move toward a more flexible policy.

Answer 3

True

Question 4

An efficient firm with good working capital management should have a high average collection period compared to its industry.

Question 5

Working capital management involves making decisions regarding the use and sources of current assets.

Question 6

Liquidity is the ability of a company to convert assets-real or financial-into cash quickly without suffering a financial loss.

Question 7

Net working capital is important because it is a measure of liquidity and represents the net short-term investment the firm keeps in the business.

Question 8

The flexible strategy is perceived be a high-risk and low-return course of action for management to follow.

Question 9

Trade credit is a cheap loan from the supplier.

Question 10

The restrictive strategy is a high-risk, high-return alternative to the flexible strategy.

Question 11

The flexible strategy calls for management to invest large amounts in cash, marketable securities, and inventory.

Question 12

The appropriate mix of current assets is not a working capital management decision.

Question 13

The conflict between carrying costs versus shortage costs is called the working capital trade-off.

Question 14

An offer of 3/10, net 40 means that the selling firm offers a 10 percent discount if the buyer pays the full amount of the purchase in cash within 3 days of the invoice date. Otherwise, the buyer has 40 days to pay the balance in full from the date of delivery.

Question 15

Trade credit, which is short-term financing, comes with an explicit interest charge.

Question 16

Days' payables outstanding (DPO) tells how long a firm takes to pay off its suppliers for the cost of inventory.

Question 17

The operating cycle begins when the firm uses its cash to purchase raw materials and ends when the firm collects cash payments on its credit sales.

Question 18

Days' payables outstanding (DPO), which tells how long a firm takes to pay off its suppliers for the cost of inventory, is used to measure the operating cycle.

Question 19

The cash conversion cycle is the length of time between the cash outflow for materials and the cash inflow from sales.

Question 20

The aging schedule shows the breakdown of the firm's accounts receivable by their date of sale.

Question 21

Which ONE of the following statements is true?

A)

B)

C)

D) None of the above.

Question 22

A restrictive current asset investment strategy calls for

A) current assets kept to a minimum.
B) the firm barely investing in cash and inventory.
C) tight terms of sale intended to curb credit sales and accounts receivable.
D) All of the above

Question 23

Short term funding strategy calls for all working capital and a portion of fixed assets to be funded with short-term debt.

Question 24

The flexible current asset investment strategy

A) has a high percent of current assets to sales.
B) calls for management to invest large amounts in cash, marketable securities, and inventory.
C) leads to high levels of accounts receivable.
D) All of the above.

Question 25

Under the maturity matching strategy, a firm funds all seasonal demands with short-term borrowing.

Question 26

Which one of the following is NOT true about the flexible current asset investment strategy?

A) The strategy promotes a liberal trade credit policy for customers.
B) The flexible strategy calls for management to invest large amounts in cash, marketable securities, and inventory.
C) The flexible strategy is perceived be a high-risk and high-return course of action for management to follow.
D) The strategy's downside is the high inventory carrying cost.

Question 27

Which one of the following statements is NOT true?

A)

B)

C) a and b
D) None of the above

Question 28

A lockbox system allows geographically dispersed customers to send their payments to a post office box close to them.

Question 29

Which ONE of the following statements is true when managing working capital accounts?

A) Maintain minimal raw material inventories without causing manufacturing delays.
B) Use as little labor as possible to manufacture the product while producing a quality product.
C) Delay paying accounts payable as long as possible without suffering any penalties.
D) All of the above are true.

Question 30

An informal line of credit is short term debt promissory notes issued by large financial firms.

Question 31

A firm that employs just-in-time management has to increase its investment in working capital.

Question 32

Which one of the following statements is NOT true?

A) Gross working capital is the funds invested in a company's current liabilities.
B) Net working capital (NWC) refers to the difference between current assets and current liabilities.
C) Working capital efficiency refers to the length of time between when a working capital asset is acquired and when it is converted into cash.
D) Working capital management involves making decisions regarding the use and sources of current assets.

Question 33

The operating cycle

A) begins when the firm receives the raw materials it purchased that would be used to produce the goods that the firm manufactures.
B) begins when the firm uses its cash to purchase raw materials and ends when the firm collects cash payments on its credit sales.
C) To measure operating cycle we need another measure called the days' payables outstanding.
D) ends not with the finished goods being sold to customers and the cash collected on the sales; but when you take into account the time taken by the firm to pay for its purchases.

Question 34

The cash conversion cycle

A) shows how long the firm keeps its inventory before selling it.
B) begins when the firm invests cash to purchase the raw materials that would be used to produce the goods that the firm manufactures.
C) begins when the firm uses its cash to purchase raw materials and ends when the firm collects cash payments on its credit sales.
D) estimates how long it takes on average for the firm to collect its outstanding accounts receivable balance.

Question 35

Which one of the following statements is NOT true?

A) The higher the cash balance, the better the ability of the firm to meet its short-term financial obligations.
B) The lower the cash balance, the better the ability of the firm to meet its short-term financial obligations.
C) The level of the cash balance has no bearing on the firm's ability to meet its short-term financial obligations.
D) None of the above.

Question 36

Float is the time taken by a credit customer to pay the firm.

Question 37

Which ONE of the following statements is true?

A) Financial shortage costs arise mainly from illiquidity-shortage of cash or a lack of marketable securities to sell for cash.
B) Operating shortage costs result from lost production and sales.
C) Operating shortage costs can be substantial, especially if the product markets are competitive.
D) All of the above.

Question 38

A factor is an individual or financial institution that buys accounts receivable without recourse.

Question 39

Which one of the following statements is NOT true?

A) The cash conversion cycle begins when the firm invests cash to purchase the raw materials that would be used to produce the goods that the firm manufactures.
B) The cash conversion cycle begins when the firm uses its cash to purchase raw materials and ends when the firm collects cash payments on its credit sales.
C) To measure the cash conversion cycle, we need another measure called the days' payables outstanding.
D) The cash conversion cycle ends not with the finished goods being sold to customers and the cash collected on the sales; but when you take into account the time taken by the firm to pay for its purchases.

Question 40

The restrictive strategy is a high-risk, high-return alternative to the flexible strategy because of

A) financial shortage costs.
B) production shortage costs.
C) human resources shortages costs.
D) None of the above.

Question 41

Which one of the following statements about just-in-time inventory management policy is NOT true?

A) It calls for the exact day-by-day, or even hour-by-hour raw material needs to be delivered by the suppliers.
B) If the supplier fails to make the needed deliveries, then production shuts down.
C) A big disadvantage in this system is that there are high raw inventory costs.
D) It eliminates obsolescence or loss to theft.

Question 42

Cash conversion cycle: What is the cash conversion cycle for Ridge Company?

A) 83.5 days
B) 38.3 days
C) 129.9 days
D) 46.4 days

Question 43

Operating shortage costs that result from lost production and sales are caused by

A) not holding enough raw materials in inventory.
B) running out of finished goods.
C) restrictive sale policies.
D) All of the above.

Question 44

Operating cycle: Le Baron Company, a men's designer firm, has an operating cycle of 123 days. The firm's days' sales in inventory is 73 days. How much does the firm have in receivables if it has credit sales of $433,450? Round to the nearest dollar.

A) $59,377
B) $71,252
C) $47,501
D) $64,233

Question 45

Which ONE of the following statements about matching maturity strategy is true?

A) All working capital is funded with short-term borrowing.
B) As the level of sales varies seasonally, short-term borrowing fluctuates between some minimum and maximum level.
C) All fixed assets are funded with long-term financing.
D) All of the above.

Question 46

Which ONE of the following statements about short term funding strategy is true?

A) All working capital and a portion of fixed assets are funded with short-term debt.
B) This strategy lowers the cost under some interest rate scenarios.
C) It forces the firm to continually refinance the funding of the long-term assets in a changing interest rate environment.
D) All of the above.

Question 47

The aging schedule

A) shows the breakdown of the firm's accounts receivable by their date of sale.
B) identifies and then tracks delinquent accounts and to see that they are paid.
C) are an important financial tool for analyzing the quality of a company's receivables.
D) All of the above.

Question 48

Which one of the following statements about collection time is NOT true?

A) Collection time, or float, is the time between when a customer makes a payment and when the cash becomes available to the firm.
B) Collection time can be broken down into three components.
C) Delivery time or mailing time is not part of the float.
D) Processing delay is part of the collection time.

Question 49

Operating cycle: Stamp, Inc., has an operating cycle of 81 days and takes 47 days to collect on its receivables. What is its level of inventory if the firm's cost of goods sold is $312,455? Round to the nearest dollar.

A) $9,190
B) $14,685
C) $29,105
D) $69,339

Question 50

Which ONE of the following statements is true?

A) The economic order quantity (EOQ) mathematically determines the minimum total inventory cost.
B) The EOQ takes into account reorder costs and inventory carrying costs.
C) The optimal order size is determined by the EOQ model.
D) All of the above

Question 51

Which ONE of the following statements about working capital tradeoff is true?

A) Financial managers need to balance shortage costs against carrying costs to find an optimal strategy.
B) If carrying costs are larger than shortage costs, then the firm will maximize value by adopting a more restrictive strategy.
C) If shortage costs dominate carrying costs, the firm will need to move toward a more flexible policy.
D) All of the above

Question 52

Which one of the following statements is NOT true?

A) The economic order quantity (EOQ) mathematically determines the minimum total inventory cost.
B) The EOQ ignores reorder costs and inventory carrying costs.
C) The optimal order size is determined by the EOQ model.
D) All of the above.

Question 53

Cash conversion cycle: Renald Corp. estimates that it takes the company 27 days on average to pay off its suppliers. It also knows that it has days' sales in inventory of 43 days and days sales' outstanding of 45 days. What is its cash conversion cycle?

A) 61 days
B) 115 days
C) 57 days
D) 46 days

Question 54

Operating cycle: What is the operating cycle for Ridge Company?

A) 47 days
B) 85 days
C) 36 days
D) 51 days

Question 55

Operating cycle: Trend Foods distributes its products to more than 100 restaurants and delis. The company's collection period is 32 days, and it keeps its inventory for 10 days. What is Trend's operating cycle?

A) 22 days
B) 32 days
C) 42 days
D) None of the above.

Question 56

Which one of the following statements is NOT true?

A) Firms using matching maturity strategy fund all working capital needs with long-term borrowing.
B) Long-term financing strategy relies on long-term debt to finance both capital assets and working capital.
C) All working capital and a portion of fixed assets are funded with short-term debt when firms use the aggressive funding strategy.
D) Firms using a matching maturity strategy fund all working capital needs with short-term borrowing.

Question 57

Cash conversion cycle: Wolfgang Electricals estimates that it takes the company 31 days on average to pay off its suppliers. It also knows that it has days' sales in inventory of 54 days and days sales' outstanding of 34 days. What is its cash conversion cycle?

A) 119 days
B) 34 days
C) 57 days
D) 46 days

Question 58

Which one of the following statements is NOT true?

A) Accounts payable (trade credit), bank loans, and commercial paper are common sources of short-term financing.
B) An informal line of credit is a verbal agreement between the firm and the bank, allowing the firm to borrow up to an agreed-upon upper limit.
C) An informal line of credit is also known as "revolving credit."
D) A formal line of credit is also known as "revolving credit."

Question 59

Which one of the following statements about working capital trade-off is NOT true?

A) Financial managers need to balance shortage costs against carrying costs to find an optimal strategy.
B) If carrying costs are smaller than shortage costs, then the firm will maximize value by adopting a more restrictive strategy.
C) If shortage costs dominate carrying costs, the firm will need to move toward a more flexible policy.
D) Management will try to find the level of current assets that minimizes the sum of the carrying costs and shortage costs.

Question 60

Operating cycle: All Stars, Inc., has inventory of $44,233 and cost of goods sold of $512,902. The company has an operating cycle of 74 days. What is the firm's days' sales outstanding (DSO)?

A) 43 days
B) 32 days
C) 49 days
D) 26 days

Question 61

Cost of trade credit: Senter Corp. sells its goods with terms of 2/10 EOM, net 30. What is the implicit cost of the trade credit?

A) 18.50%
B) 30.00%
C) 44.59%
D) 21.89%

Question 62

Which of the following is the equation for net working capital?

A) Total assets - total liabilities
B) Current assets - current liabilities
C) Current assets/current liabilities
D) Total assets/total liabilities

Question 63

Effective interest rate: Maggie's Bistro is borrowing $375,000. The loan requires an 8 percent compensating balance, and the effective interest rate on the loan is 10.326 percent. What is the stated APR on this loan? Round to one decimal place.

A) 10.0%
B) 9.5%
C) 7.4%
D) 8.5%

Question 64

What is the number of cars per order?

A) 80 cars
B) 101cars
C) 58 cars
D) 113 cars

Question 65

Cash conversion cycle: Your boss asks you to compute the company's cash conversion cycle. Looking at the financial statements, you see that the average inventory for the year was $126,300, accounts receivable were $97,900, and accounts payable were at $115,100. You also see that the company had sales of $324,000 and that cost of goods sold was $282,000. What is your firm's cash conversion cycle? Round to the nearest day.

A) 119 days
B) 34 days
C) 57 days
D) 125 days

Question 66

Formal line of credit: Storm Electronics has set up a formal line of credit of $2 million with First Kentucky Bank. The line of credit is good for up to three years. The bank will be charging them an interest rate of 6.25 percent on the loan, and in addition the firm will pay an annual fee of 60 basis points on the unused balance. The firm borrowed $1,500,000 on the first day the credit line became available. What is the firm's effective interest rate on this line of credit? Round to two decimal places.

A) 7.50%
B) 6.45%
C) 6.25%
D) 7.15%

Question 67

Ticktock Clocks sells 10,000 alarm clocks each year. If the total cost of placing an order is $65 and it costs $85 per year to carry the alarm clock in inventory, use the EOQ formula to calculate the optimal order size.

A) 124 clocks
B) 161 clocks
C) 15,294 clocks
D) 26,154 clocks

Question 68

Effective interest rate: Sun Prairie Traders borrowed $63,000 at an APR of 10 percent. The loan called for a compensating balance of 10 percent. What is the effective interest rate on the loan?

A) 10.00%
B) 11.11%
C) 8.00%
D) 12.50%

Question 69

Effective interest rate: Good Homes Furnishings is borrowing $225,000. The loan requires a 10 percent compensating balance, and the effective interest rate on the loan is 8.25 percent. What is the stated APR on this loan? Round to one decimal place.

A) 10.00%
B) 11.11%
C) 7.4%
D) 8.25%

Question 70

Lockbox: Porter Corp. has just signed up for a lockbox. Management expects the lockbox to reduce the mail float by 2.3 days. The firm's remittances average $41,250 a day, with the average check being $165. The bank charges $0.39 per processed check. Assume that there are 270 business days in a year and their opportunity cost of funds is 5 percent. What will the firm's savings be from using the lockbox?

A) $4,743.75
B) $975.50
C) $2,632.50
D) $94,875.00

Question 71

Effective interest rate: Serengeti Travels has borrowed $50,000 at a stated APR of 8.5 percent. The loan calls for a compensating balance of 8 percent. What is the effective interest rate for this company?

A) 9.24%
B) 8.50%
C) 8.00%
D) 16.50%

Question 72

Formal line of credit: Gibbs, Inc., has just set up a formal line of credit of $1 million with First National Bank. The line of credit is good for up to five years. The bank will be charging them an interest rate of 6.25 percent on the loan, and in addition the firm will pay an annual fee of 50 basis points on the unused balance. The firm borrowed $600,000 on the first day the credit line became available. What is the firm's effective interest rate on this line of credit?

A) 8.00%
B) 7.25%
C) 6.58%
D) 8.25%

Question 73

Cash conversion cycle: West Handicrafts, Inc., has net sales of $423,000 with 30 percent of it being credit sales. Its cost of goods sold is $324,000. The firm's cash conversion cycle is 47.9 days. The firm's operating cycle is 86.3 days. What is the firm's accounts payable? Round to the nearest dollar

A) $34,087
B) $126,900
C) $71,203
D) $56,322

Question 74

Cost of trade credit: Kearns, Inc., sells its goods with terms of 3/15 EOM, net 60. What is the implicit cost of the trade credit?

A) 15%
B) 45%
C) 34%
D) 28%

Question 75

Factoring: Pride, Inc., sells $150,000 of its accounts receivable to factors at 2.875 percent discount. The firm's average collection period is 75 days. What is the simple annual interest cost of the factors loan?

A) 35.5%
B) 32.9%
C) 27.8%
D) 31.1%

Question 76

Lockbox: Rocky Corp. has daily sales of $18,100. The financial manager determined that a lockbox would reduce the collection time by 2.2 days. Assuming the company can earn 6 percent interest per year, what are the savings from the lockbox? Round to the nearest dollar.

A) $3,620.50
B) $2,389.20
C) $39,820
D) $1,100.45

Question 77

How many orders will the dealer need to place this year?

A) 4 orders
B) 5 orders
C) 6 orders
D) 7 orders

Question 78

Factoring: A firm sells $125,000 of its accounts receivable to factors at 3 percent discount. The firm's average collection period is one month. What is the dollar cost of the factoring service?

A) $3,000
B) $4,500
C) $3,750
D) $4,250

Question 79

Formal line of credit: Trend, Inc., has just set up a formal line of credit of $5 million with First National Bank. The line of credit is good for up to three years. The bank will be charging them an interest rate of 7.5 percent on the loan, and in addition the firm will pay an annual fee of 50 basis points on the unused balance. The firm borrowed $2,300,000 on the first day the credit line became available. What is the firm's effective interest rate on this line of credit? Round to one decimal place.

A) 8.5%
B) 7.25%
C) 9.0%
D) 8.1%

Question 80

Which of the following is a short-term financing instrument?

A) Accounts payable
B) Bank loans with a maturity of less than 1 year
C) Commercial paper
D) All of the above