Exam 21: Working Capital

increase in any current asset must be accompanied by an equal increase in some current liability.

a firm has a large percentage of accounts over 30 days old, this is proof positive that its receivables manager is not doing a good job.

Pascarella Incis revising its payables policyIt has annual sales of $50,735,000, an average inventory level of $15,012,000, and average accounts receivable of $10,008,000 The firm's cost of goods sold is 85% of sales The company makes all purchases on credit and has always paid on the 30th day However, it now plans to take full advantage of trade credit and to pay its suppliers on the 40th day The CFO also believes that sales can be maintained at the existing level but inventory can be lowered by $1,946,000 and accounts receivable by $1,946,000 What will be the net change in the cash conversion cycle, assuming a 365-day year?

calculated cost of trade credit for a firm that buys on terms of 2/10 net 30 is lower (other things held constant) if the firm plans to pay in 40 days than in 30 days.

Trade credit can be separated into two components: free trade credit, which is credit received after the discount period ends, and costly trade credit, which is the cost of discounts not taken.

promissory note is the document signed when a bank loan is executed, and it specifies financial aspects of the loan.

one of your firm's customers is "stretching" its accounts payable, this may be a nuisance but it does not represent a real financial cost to your firm as long as the customer periodically pays off its entire balance.

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.

Accruals are "free" capital in the sense that no explicit interest must normally be paid on accrued liabilities.

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

Uncertainty about the exact lives of assets prevents precise maturity matching in an ex post (i.e., after the fact) sense even though it is possible to match maturities on an ex ante (expected) basis.