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Exam 15: Working Capital Management

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Question 41

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As a rule,managers should try to always use the free component of trade credit but should use the costly component only if the cost of this credit is lower than the cost of credit from other sources.

A) True
B) False

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Question 42

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The risk to the firm of borrowing using short-term credit is usually greater than if it used long-term debt.Added risk stems from (1)the greater variability of interest costs on short-term than long-term debt and (2)the fact that even if its long-term prospects are good,the firm's lenders may not be willing to renew short-term loans if the firm is temporarily unable to repay those loans.

A) True
B) False

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Question 43

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The maturity of most bank loans is short term.Bank loans to businesses are frequently made as 90-day notes which are often rolled over,or renewed,rather than repaid when they mature.However,if the borrower's financial situation deteriorates,then the bank may refuse to roll over the loan.

Whittington Inc.has the following data.What is the firm's cash conversion cycle? ​

Weiss Inc.arranged a $9,000,000 revolving credit agreement with a group of banks.The firm paid an annual commitment fee of 0.5% on 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 one year,what was the total dollar annual cost of the revolver?

Roton Inc.purchases merchandise on terms of 2/15,net 40,and its gross purchases (i.e. ,purchases before taking off the discount) are $675,000 per year.What is the maximum dollar amount of costly trade credit the firm could get,assuming it abides by the supplier's credit terms? (Assume a 365-day year. )

Because money has time value,a cash sale is always more profitable than a credit sale.

Ingram Office Supplies,Inc. ,buys on terms of 2/15,net 50 days.It does not take discounts,and it typically pays on time,50 days after the invoice date.Net purchases amount to $800,000 per year.On average,what is the dollar amount of costly trade credit (total credit - free credit) the firm receives during the year? (Assume a 365-day year,and note that purchases are net of discounts. )

A firm buys on terms of 3/15,net 45.It does not take the discount,and it generally pays after 85 days.What is the nominal annual percentage cost of its non-free trade credit,based on a 365-day year?

Inmoo Company's average age of accounts receivable is 68 days,the average age of accounts payable is 40 days,and the average age of inventory is 69 days.Assuming a 365-day year,what is the length of its cash conversion cycle?

Which of the following statements is NOT CORRECT?

Which of the following statements is CORRECT?

A firm's peak borrowing needs will probably be overstated if it bases its monthly cash budget on the assumption that both cash receipts and cash payments occur uniformly over the month but in reality receipts are concentrated at the beginning of each month.

If a firm switched from taking trade credit discounts to paying on the net due date,this might cost the firm some money,but such a policy would probably have only a negligible effect on the income statement and no effect whatever on the balance sheet.

A firm that follows an aggressive working capital financing approach uses primarily short-term credit and thus is more exposed to an unexpected increase in interest rates than is a firm that uses long-term capital and thus follows a conservative financing policy.

Gonzales Company currently uses maximum trade credit by not taking discounts on its purchases.The standard industry credit terms offered by all its suppliers are 2/10,net 38 days,and the firm pays on time.The new CFO is considering borrowing from its bank,using short-term notes payable,and then taking discounts.The firm wants to determine the effect of this policy change on its net income.Its net purchases are $11,760 per day,using a 365-day year.The interest rate on the notes payable is 10%,and the tax rate is 40%.If the firm implements the plan,what is the expected change in net income?

Long-term loan agreements always contain provisions,or covenants,that constrain the firm's future actions.Short-term credit agreements are just as restrictive in order to protect the interest of the lender.

The maturity matching,or "self-liquidating",approach to financing involves obtaining the funds for permanent current assets with a combination of long-term capital and short-term capital that varies depending on the level of interest rates.When short-term rates are relatively high,short-term assets will be financed with long-term debt to reduce costs.

Which of the following statements is NOT CORRECT?

Since depreciation is a non-cash charge,it neither appears on nor has any effect on the cash budget.Thus,if the depreciation charge for the coming year doubled or halved,this would have no effect on the cash budget.