Question 1

If easing a firm's credit policy lengthens the collection period and results in a worsening of the aging schedule, then why do firms take such actions?

Accepted Answer

A)  It normally stimulates sales. 
B)  To meet competitive pressures. 
C)  To increase the firm's deferral period for payables. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct. 
A)  It normally stimulates sales. 
B)  To meet competitive pressures. 
C)  To increase the firm's deferral period for payables. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct.

Question 2

Inland Oil arranged a $10,000,000 revolving credit agreement with a group of small banks. The firm paid an annual commitment fee of one-half of one percent of the unused balance of the loan commitment. On the used portion of the loan, Inland paid 1.5 percent above prime for the funds actually borrowed on an annual, simple interest basis. The prime rate was at 9 percent for the year. If Inland 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 cost of the loan agreement for one year?

Accepted Answer

A)  $560,000 
B)  $650,000 
C)  $540,000 
D)  $900,000 
E)  $675,000 
A)  $560,000 
B)  $650,000 
C)  $540,000 
D)  $900,000 
E)  $675,000

Question 3

A firm which makes 90 percent of its sales on credit and 10 percent for cash is currently growing at a rate of 10 percent annually. If the firm maintains stable growth it will also be able to maintain its accounts receivable at its current level, since the 10 percent cash sales can be used to manage the 10 percent growth rate.

Accepted Answer

A) True 
 B)False

Question 4

Since receivables and payables both result from sales transactions, a firm with a high receivables-to-sales ratio will also have a high payables-to-sales ratio.

Accepted Answer

A) True 
 B)False

Question 5

Helena Furnishings wants to sharply reduce its cash conversion cycle. Which of the following steps would reduce its cash conversion cycle?

Accepted Answer

A)  The company increases its average inventory without increasing its sales. 
B)  The company reduces its DSO. 
C)  The company starts paying its bills sooner, which reduces its average accounts payable without reducing its sales. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct. 
A)  The company increases its average inventory without increasing its sales. 
B)  The company reduces its DSO. 
C)  The company starts paying its bills sooner, which reduces its average accounts payable without reducing its sales. 
D)  Statements a and b are correct. 
E)  All of the statements above are correct.

Question 6

If a firm is involuntarily "stretching" its accounts payable then this is one sign that it is undercapitalized, that is, that it needs more working capital for operations.

Accepted Answer

A) True 
 B)False

Question 7

Trade credit is an inexpensive source of short-term financing if no discounts are offered.

Accepted Answer

A) True 
 B)False

Question 8

Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive working capital financing strategy because of the inherent risks of using short-term financing.

Accepted Answer

A) True 
 B)False

Question 9

A firm's collection policy and the procedures it follows to collect accounts receivable play an important role in keeping its deferrables period short, although too strict a collection policy can result in outright losses due to non-payment.

Accepted Answer

A) True 
 B)False

Question 10

Firms generally choose to finance temporary net operating working capital with short-term debt because

Accepted Answer

A)  Matching the maturities of assets and liabilities reduces risk. 
B)  Short-term interest rates have traditionally been more stable than long-term interest rates. 
C)  A firm that borrows heavily long-term is more apt to be unable to repay the debt than a firm that borrows heavily short-term. 
D)  The yield curve has traditionally been downward sloping. 
E)  Sales remain constant over the year, and financing requirements also remain constant. 
A)  Matching the maturities of assets and liabilities reduces risk. 
B)  Short-term interest rates have traditionally been more stable than long-term interest rates. 
C)  A firm that borrows heavily long-term is more apt to be unable to repay the debt than a firm that borrows heavily short-term. 
D)  The yield curve has traditionally been downward sloping. 
E)  Sales remain constant over the year, and financing requirements also remain constant.

Question 11

For a firm that makes heavy use of float, being able to forecast its collections and disbursement check clearings is essential.

Accepted Answer

A) True 
 B)False

Question 12

Lockbox arrangements are one way for a firm to speed up its collection of payments from customers.

Accepted Answer

A) True 
 B)False

Question 13

Which of the following statements is most correct?

Accepted Answer

A)  Shorter-term cash budgets, in general, are used primarily for planning purposes, while longer-term budgets are used for actual cash control. 
B)  The cash budget and the capital budget are planned separately and although they are both important to the firm, they are independent of each other. 
C)  Since depreciation is a non-cash charge, it does not appear on nor have an effect on the cash budget. 
D)  The target cash balance is set optimally such that it need not be adjusted for seasonal patterns and unanticipated fluctuations in receipts, although it is changed to reflect long-term changes in the firm's operations. 
E)  The typical actual cash budget will reflect interest on loans and income from investment of surplus cash. These numbers are expected values and actual results might vary from budgeted results. 
A)  Shorter-term cash budgets, in general, are used primarily for planning purposes, while longer-term budgets are used for actual cash control. 
B)  The cash budget and the capital budget are planned separately and although they are both important to the firm, they are independent of each other. 
C)  Since depreciation is a non-cash charge, it does not appear on nor have an effect on the cash budget. 
D)  The target cash balance is set optimally such that it need not be adjusted for seasonal patterns and unanticipated fluctuations in receipts, although it is changed to reflect long-term changes in the firm's operations. 
E)  The typical actual cash budget will reflect interest on loans and income from investment of surplus cash. These numbers are expected values and actual results might vary from budgeted results.

Question 14

The cash budget and the capital budget are planned separately, and although they are both important to the firm, they are independent of each other.

Accepted Answer

A) True 
 B)False

Question 15

Callison Airlines is deciding whether to pursue a restricted or relaxed working capital investment policy. Callison's annual sales are expected to total $3.6 million, its fixed assets turnover ratio equals 4.0, and its debt and common equity are each 50 percent of total assets. EBIT is $150,000, the interest rate on the firm's debt is 10 percent, and the firm's tax rate is 40 percent. If the company follows a restricted policy, its total assets turnover will be 2.5.
Under a relaxed policy, its total assets turnover will be 2.2.
-If the firm adopts a restricted policy, how much will it save in interest expense (relative to what it would be if Callison were to adopt a relaxed policy)?

Accepted Answer

A)  $ 3,233 
B)  $ 6,175 
C)  $ 9,818 
D)  $ 7,200 
E)  $10,136 
A)  $ 3,233 
B)  $ 6,175 
C)  $ 9,818 
D)  $ 7,200 
E)  $10,136

Question 16

Which of the following statements is most correct?

Accepted Answer

A)  Net working capital may be defined as current assets minus current liabilities. Any increase in the current ratio will automatically lead to an increase in net working capital. 
B)  Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive strategy because of the inherent risks of using short-term financing. 
C)  If a company follows a policy of "matching maturities," this means that it matches its use of common stock with its use of long-term debt as opposed to short-term debt. 
D)  All of the statements above are correct. 
E)  None of the statements above is correct. 
A)  Net working capital may be defined as current assets minus current liabilities. Any increase in the current ratio will automatically lead to an increase in net working capital. 
B)  Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive strategy because of the inherent risks of using short-term financing. 
C)  If a company follows a policy of "matching maturities," this means that it matches its use of common stock with its use of long-term debt as opposed to short-term debt. 
D)  All of the statements above are correct. 
E)  None of the statements above is correct.

Question 17

Which of the following statements is most correct?

Accepted Answer

A)  The cash balances of most firms consist of transactions, compensating, and precautionary balances. The total desired cash balance can be determined by calculating the amount needed for each purpose and then summing them together. 
B)  The easier a firm's access to borrowed funds, the higher its precautionary balances will be in order to protect against sudden increases in interest rates. 
C)  For some firms holding highly liquid marketable securities is a substitute for holding cash, because the marketable securities accomplish the same objective as cash. 
D)  All companies hold the same amount of funds for a transaction balance. 
E)  None of the statements above is correct. 
A)  The cash balances of most firms consist of transactions, compensating, and precautionary balances. The total desired cash balance can be determined by calculating the amount needed for each purpose and then summing them together. 
B)  The easier a firm's access to borrowed funds, the higher its precautionary balances will be in order to protect against sudden increases in interest rates. 
C)  For some firms holding highly liquid marketable securities is a substitute for holding cash, because the marketable securities accomplish the same objective as cash. 
D)  All companies hold the same amount of funds for a transaction balance. 
E)  None of the statements above is correct.

Question 18

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

Accepted Answer

A) True 
 B)False

Question 19

Synchronization of cash flows is an important cash management technique and effective synchronization can actually increase a firm's profitability.

Accepted Answer

A) True 
 B)False

Question 20

When deciding whether or not to take a trade discount, the cost of borrowing funds should be compared to the cost of trade credit to determine if the cash discount should be taken.

Accepted Answer

A) True 
 B)False

Exam 21: Working Capital Management

If easing a firm's credit policy lengthens the collection period and results in a worsening of the aging schedule, then why do firms take such actions?

Since receivables and payables both result from sales transactions, a firm with a high receivables-to-sales ratio will also have a high payables-to-sales ratio.

Helena Furnishings wants to sharply reduce its cash conversion cycle. Which of the following steps would reduce its cash conversion cycle?

If a firm is involuntarily "stretching" its accounts payable then this is one sign that it is undercapitalized, that is, that it needs more working capital for operations.

Trade credit is an inexpensive source of short-term financing if no discounts are offered.

Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive working capital financing strategy because of the inherent risks of using short-term financing.

A firm's collection policy and the procedures it follows to collect accounts receivable play an important role in keeping its deferrables period short, although too strict a collection policy can result in outright losses due to non-payment.

Firms generally choose to finance temporary net operating working capital with short-term debt because

For a firm that makes heavy use of float, being able to forecast its collections and disbursement check clearings is essential.

Lockbox arrangements are one way for a firm to speed up its collection of payments from customers.

Which of the following statements is most correct?

The cash budget and the capital budget are planned separately, and although they are both important to the firm, they are independent of each other.

Which of the following statements is most correct?

Which of the following statements is most correct?

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

Synchronization of cash flows is an important cash management technique and effective synchronization can actually increase a firm's profitability.

When deciding whether or not to take a trade discount, the cost of borrowing funds should be compared to the cost of trade credit to determine if the cash discount should be taken.

An Overview of Financial Management

Risk and Return: Part I

Risk and Return: Part II

Bond Valuation

Basic Stock Valuation

Financial Options

Accounting for Financial Management

Analysis of Financial Statements

Financial Planning and Forecasting Financial Statements

Determining the Cost of Capital

Corporate Valuation and Value-Based Management

Capital Budgeting: Decision Criteria

Capital Budgeting: Cash Flows and Risk

Real Options

Capital Structure Decisions: Part I

Capital Structure Decisions: Part II

Distributions to Shareholders

Ipos, Investment Banking, and Financial Restructuring

Lease Financing

Hybrid Financing

Providing and Obtaining Credit

Other Topics in Working Capital Management

Derivatives and Risk Management

Bankruptcy, Reorganization, and Liquidation

Mergers, Lbos, Divestitures, and Holding Companies

Multinational Financial Management

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