Exam 15: Working-Capital Management

Both compensating balances and discounting interest increase the effective interest rate on a loan.

Achieving a lower inventory balance through working capital management can result in savings from both carrying costs and losses associated with obsolete inventory.

Which of the following is an unsecured short-term bank loan made for a specific purpose?

With regard to the hedging principle,which of the following would be an appropriate method to finance a minimum level of current assets required for year round operations?

Minimum levels of inventory and accounts receivable that will be maintained throughout the year are current assets,and therefore considered temporary investments.

The hedging principle involves the use of hedge funds to manage the firm's working capital.

Working capital management involves managing a firm's liquidity.

Richenstein Enterprises is in the business of selling dishwashers.The firm needs $192,000 to finance an anticipated expansion in receivables due to increased sales.Richenstein's credit terms are net 40,and its average monthly credit sales are $180,000.In general,the firm's customers pay within the credit period; thus,the firm's average accounts receivable balance is $240,000. The comptroller of Richenstein Enterprises,Mr.Gee,approached their bank for the needed capital,pledging the accounts receivable as collateral.The bank offered to make the loan at a rate of 2 percent over prime plus a 1 percent processing charge on all receivables pledged.The bank agreed to loan up to 80 percent of the face value of the receivables pledged. a.Estimate the cost of the receivables loan to Richenstein where the firm borrows the $192,000.The prime rate is currently 13%. b.Gee also requested a line of credit for $192,000 from the bank.The bank agreed to grant the necessary line of credit at a rate of 4% over prime and required a 12% compensating balance Gee currently maintains an average demand deposit of $40,000.Estimate the cost of the line of credit to Richenstein. c.Which source of credit should Richenstein Enterprises select?

Which of the following is an advantage of the use of current liabilities to finance assets?

MovieTone,Inc.is a producer and distributor of specialty DVDs.It sells directly to large retail firms on terms of net 60 and has average monthly sales of $350,000.It has recently decided to pledge all of its accounts receivable to its bank.The bank advances up to 80 percent of the face value of these receivables at a rate of 4 percent over the prime rate,while charging 2.5 percent on all receivables pledged for processing to cover billing and collection services.Prior to this arrangement MovieTone was spending $50,000 a year on its credit department.The prime rate is 6 percent. a.What is the average level of accounts receivable? b.What is the effective cost of using this short-term credit for one year?

Factoring accounts receivable is the sale of a firm's receivables while pledging accounts receivable is the use of accounts receivable as collateral for a loan.

The risk-return trade-off in managing a firm's working capital involves which of the following?

AFB,Inc.purchases a new delivery van which is expected to increase cash flows for the next 10 years.AFB can finance the purchase with a standard 48 month vehicle loan,or by getting a 10 year loan from the bank.According to the hedging principle,AFB should

Working capital includes all of the following EXCEPT

Symco Corp.needs $500,000 for 90 days to get through a period of unexpectedly high oil prices.Symco's line of credit with the bank allows the company to borrow at 6% per year with a compensating balance of 10% of the amount borrowed.Currently,Symco has no money on deposit with the bank. a.Calculate the amount Symco must borrow to meets its needs plus the compensating balance. b.What is the annual percentage rate for this financing? c.If the bank requires discount interest,what is the annual percentage rate for this financing?

Simpson Conglomerates borrows $12,000 for a short-term purpose.The loan will be repaid after 120 days,with Simpson paying a total of $12,400.What is the approximate cost of credit using the APR,or annual percentage rate,calculation?

Sources of spontaneous financing include trade credit,salaries payable,and accrued taxes.

Brown Inc.needs to borrow $250,000 for the next 6 months.The company has a line of credit with a bank that allows the company to borrow funds with an 8% interest rate subject to a 20% of loan compensating balance.Currently,Brown Inc.has no funds on deposit with the bank and will need the loan to cover the compensating balance as well as their other financing needs.How much will Brown Inc.need to borrow?

The hedging principle implies that permanent asset investments not financed by spontaneous sources should be financed with permanent sources,and temporary investments not financed by spontaneous sources should be financed with temporary sources.

Which of the following actions would improve a firm's liquidity?