Chap007
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Chap007

Course Number: FINC 3343, Spring 2011

College/University: Arkansas Little Rock

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Chapter 07: Current Asset Management Chapter 7 Current Asset Management Discussion Questions 7-1. In the management of cash and marketable securities, why should the primary concern be for safety and liquidity rather than maximization of profit? Cash and marketable securities are generally used to meet the transaction needs of the firm and for contingency purposes. Because the funds must be available when needed,...

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07: Chapter Current Asset Management Chapter 7 Current Asset Management Discussion Questions 7-1. In the management of cash and marketable securities, why should the primary concern be for safety and liquidity rather than maximization of profit? Cash and marketable securities are generally used to meet the transaction needs of the firm and for contingency purposes. Because the funds must be available when needed, the primary concern should be with safety and liquidity rather than the maximum profits. 7-2. Explain the similarities and differences of lockbox systems and regional collection offices. Both lockbox systems and regional collection offices allow for the rapid processing of checks that originate at distant points. The difference is that a regional collection center requires the commitment of corporate resources and personnel to staff an office, while a lockbox system requires only the use of a post office box and the assistance of a local bank. Clearly, the lockbox system is less expensive. 7-3. Why would a financial manager want to slow down disbursements? By slowing down disbursements or the processing of checks against the corporate account, the firm is able to increase float and also to provide a source of short-term financing. 7-4. Use The Wall Street Journal or some other financial publication to find the going interest rates for the list of marketable securities in Table 7-1 on page 200. Which security would you choose for a short-term investment? Why? The answer to this question may well depend upon the phase of the business cycle at the time the question is considered. In normal times, small CDs and savings accounts may prove adequate. However, in a tight money period, wide differentials may be established between the various instruments and maximum returns may be found in Treasury bills, large CDs, commercial paper, and money market funds. 7-1 Chapter 07: Current Asset Management 7-5. Why are Treasury bills a favorite place for financial managers to invest excess cash? Treasury bills are popular because of the large and active market in which they trade. Because of this, the investor may literally pinpoint the maturity desired choosing anywhere from one day to a year. The "T-bill" market provides maximum liquidity and can absorb almost any dollar amount of business. 7-6. Explain why the bad debt percentage or any other similar credit-control percentage is not the ultimate measure of success in the management of accounts receivable. What is the key consideration? An investment in accounts receivable requires a commitment of funds as is true of any other investment. The key question is: Will the dollar returns from the resource commitment provide a sufficient rate of return to justify the investment? There is no such thing as too many or too few bad debts, only too low a return on capital. 7-7. What are three quantitative measures that can be applied to the collection policy of the firm? The average collection period, the ratio of bad debts to credit sales and the aging of accounts receivable. 7-8. What are the 5 Cs of credit that are sometimes used by bankers and others to determine whether a potential loan will be repaid? The 5 C's of credit are character, capital, capacity, conditions, and collateral. 7-9. What does the EOQ formula tell us? What assumption is made about the usage rate for inventory? The EOQ or economic order point tells us at what size order point we will minimize the overall inventory costs to the firm, with specific attention to inventory ordering costs and inventory carrying costs. It does not directly tell us the average size of inventory on hand and we must determine this as a separate calculation. It is generally assumed, however, that inventory will be used up at a constant rate over time, going from the order size to zero and then back again. Thus, average inventory is half the order size. 7-2 Chapter 07: Current Asset Management 7-10. Why might a firm keep a safety stock? What effect is it likely to have on carrying cost of inventory? A safety stock protects against the risk of losing sales to competitors due to being out of an item. A safety stock will guard against late deliveries due to weather, production delays, equipment breakdowns and many other things that can go wrong between the placement of an order and its delivery. With more inventory on hand, the carrying cost of inventory will go UP. 7-11. If a firm uses a just-in-time inventory system, what effect is that likely to have on the number and location of suppliers? A just-in-time inventory system usually means there will be fewer suppliers, and they will be more closely located to the manufacturer they supply. Chapter 7 Problems 1. Cost-benefit analysis of cash management (LO2) Beth's Society Clothiers, Inc., has collection centers across the country to speed up collections. The company also makes payments from remote disbursement centers so the firm's checks will take longer to clear the bank. Collection time has been reduced by two and half days and disbursement time increased by one and one-half days because of these policies. Excess funds are being invested in short-term instruments yielding 6 percent per annum. a. If the firm has $4 million per day in collections and $3 million per day in disbursements, how many dollars has the cash management system freed up? b. How much can the firm earn in dollars per year on short-term investments made possible by the freed-up cash? 7-1. Solution: Beth's Society Clothiers, Inc. a. $4,000,000 daily collections 2.5 days speed up = $10,000,000 additional collections $3,000,000 daily disbursements 1.5 days slow down = $ 4,500,000 delayed disbursements $10,000,000 additional collections $ 4,500,000 delayed disbursements $14,500,000 freed-up funds 7-3 Chapter 07: Current Asset Management b. $14,500,000 x 6% $ 870,000 freed-up funds interest rate interest on freed-up cash 2. Cost-benefit analysis of cash management (LO2) Neon Light Company of Kansas City ships lamps and lighting appliances throughout the country. Ms. Neon has determined that through the establishment of local collection centers around the country, she can speed up the collection of payments by one and one-half days. Furthermore, the cash management department of her bank has indicated to her that she can defer her payments on her accounts by one-half day without affecting suppliers. The bank has a remote disbursement center in Florida. a. If Neon Light Company has $2 million per day in collections and $1 million per day in disbursements, how many dollars will the cash management system free up? b. If Neon Light Company can earn 9 percent per annum on freed-up funds, how much will the income be? c. If the total cost of the new system is $375,000, should it be implemented? 7-2. Solution: Neon Light Company of Kansas City a. $2,000,000 daily collections 1.5 days speed up = $3,000,000 additional collections $1,000,000 daily disbursements .5 days slow down = $500,000 delayed disbursements $3,500,000 freed-up funds b. $3,500,000 x 9% $ 315,000 freed-up funds interest rate interest on freed-up cash c. No. The income of $315,000 is $60,000 less than the cost of $375,000. 7-4 Chapter 07: Current Asset Management 3. International cash management (LO2) Orbital Communications has operating plants in over 100 countries. It also keeps funds for transactions purposes in many foreign countries. Assume in 2010 it held 100,000 kronas in Norway worth $35,000. The funds drew 12 percent interest, and the krona increased 6 percent against the dollar. What is the value of the holdings, based on U.S. dollars, at year-end (Hint: multiply $35,000 times 1.12 and then multiply the resulting value by 106 percent.) 7-3. Solution: Orbital Communications $35,000 1.12 = $39,200 $39,200 106% = $41,552 4. International cash management (LO2) Postal Express has outlets throughout the world. It also keeps funds for transactions purposes in many foreign countries. Assume in 2010 it held 200,000 reals in Brazil worth 130,000 dollars. It drew 10 percent interest, but the Brazilian real declined 20 percent against the dollar. a. What is the value of its holdings, based on U.S. dollars, at year-end? (Hint: multiply $130,000 times 1.10 and then multiply the resulting value by 80 percent.) b. What is the value of its holdings, based on U.S. dollars, at year-end if instead it drew 8 percent interest and the real went up by 12 percent against the dollar? 7-4. Solution: Postal Express a. $130,000 1.10 $143,000 80% b. $130,000 1.08 = $143,000 = $114,400 dollar value of real holdings = $140,040 $140,040 112% = $157,248 dollar value of real holdings 7-5 Chapter 07: Current Asset Management 5. Average collection period (LO4) Sanders' Prime Time Company has annual credit sales of $1,800,000 and accounts receivable of $210,000. Compute the value of the average collection period. 7-5. Solution: Sanders' Prime Time Co. Average collection period = = = Accounts receivable Average daily credit sales $210,000 $1,800,000 / 360 $210,000 $5,000 = 42days 6. Average collection period (LO4) Oral Roberts Dental Supplies has annual sales of $5,625,000. Eighty percent are on credit. The firm has $475,000 in accounts receivable. Compute the value of the average collection period. 7-6. Solution: Oral Roberts Dental Supplies Average collection period = Accounts receivable Average daily credit sales Credit Sales = 80% $5,625,000 = $4,500,000 7-6 Chapter 07: Current Asset Management Average collection period = $475,000 4,500,000/360 = $475,000 $12,500 =38 days 7. Accounts receivable balance (LO4) Eco-Friendly Products has annual credit sales of $900,000 and an average collection period of 30 days. Assume a 360-day year. What is the company's average accounts receivable balance? Accounts receivable are equal to the average daily credit sales times the average collection period. 7-7. Solution: Eco-Friendly Products $900,000annual credit sales = $2,500credit sales a day 360days per year $2,500 average daily credit sales 8. 30 average $75,000 average = collection period Accounts receivable balance Accounts receivable balance (LO4) Barney's Antique Shop has annual credit sales of $1,080,000 and an average collection period of 40 days. Assume a 360-day year. What is the company's average accounts receivable balance? Accounts receivable are equal to the average daily credit sales times the average collection period. 7-7 Chapter 07: Current Asset Management 7-8. Solution: Barney's Antique Shop $1,080,000annual credit sales = $3,000credit sales a day 360days per year $3,000 average daily credit sales 40 average $120,000 average = collection period accounts receivable balance 9. Credit policy (LO4) In Problem 8, if accounts receivable change to $140,000, while credit sales are $1,440,000, should we assume the firm has a more or a less lenient credit policy? Hint: Recompute the average collection period. 7-9. Solution: Barney's Antique Shop (Continued) Average collection period = = = Accounts receivable Average daily credit sales $140,000 $1,440,000 / 360 $140,000 $4,000 = 35 days Since the firm has a shorter average collection period, it appears that the firm does not have a more lenient credit policy. 7-8 Chapter 07: Current Asset Management 10. Determination of credit sales (LO4) Mervyn's Fine Fashions has an average collection period of 40 days. The accounts receivable balance is $80,000. What is the value of its credit sales? 7-10. Solution: Mervyn's Fine Fashion Average collection period = Accounts receivable Average daily credit sales $80,000 40 days = Credit sales 360 credit sales $80,000 = 360 40 Credit sales/360 = $2,000 Credit sales = $2,000 360 = $720,000 11. Aging of accounts receivable (LO4) Route Canal Shipping Company has the following schedule for aging of accounts receivable: Age of Receivables April 30, 2010 (1) Month of Sales April.................................. March................................ February............................ January.............................. Total receivables............ a. b. c. (2) Age of Account 030 3160 6190 91120 (3) Amounts $ 105,000 60,000 90,000 45,000 $ 300,000 (4) Percent of Amount Due ____ ____ ____ ____ 100% Fill in column (4) for each month. If the firm had $1,440,000 in credit sales over the four-month period, compute the average collection period. Average daily sales should be based on a 120-day period. If the firm likes to see its bills collected in 30 days, should it be satisfied with the average collection period? 7-9 Chapter 07: Current Asset Management d. e. Disregarding your answer to part c and considering the aging schedule for accounts receivable, should the company be satisfied? What additional information does the aging schedule bring to the company that the average collection period may not show? 7-11. Solution: Route Canal Shipping Company Age of Receivables, April 30, 2010 a. (2) Age of Month of Sales Account April 030 March 3160 February 6190 January 91120 Total receivables (1) (3) Amounts $105,000 60,000 90,000 45,000 $300,000 (4) Percent of Amount Due 35% 20% 30% 15% 100% 7-11. (Continued) Average Collection Period = = = Accounts receivable Average daily credit sales $300,000 $1, 440,000 / 120 $300,000 $12,000 b. = 25 days c. Yes, the average collection of 25 days is less than 30 days. 7-10 Chapter 07: Current Asset Management d. No. The aging schedule provides additional insight that 65 percent of the accounts receivable are over 30 days old. e. It goes beyond showing how many days of credit sales accounts receivables represent, to indicate the distribution of accounts receivable between various time frames. 12. Economic ordering quantity (LO5) Midwest Tires has expected sales of 12,000 tires this year, an ordering cost of $6 per order, and carrying costs of $1.60 per tire. a. What is the economic ordering quantity? b. How many orders will be placed during the year? c. What will the average inventory be? 7-12. Solution: Midwest Tires EOQ = a. = 2SO 2 12,000 $6 = C $1.60 $144,000 = 90,000 = 300 tires $1.60 b. 12,000 tires/300 tires = 40 orders c. EOQ/2 = 300/2 = 150 tires (average inventory) 13. Economic ordering quantity (LO5) Fisk Corporation is trying to improve its inventory control system and has installed an online computer at its retail stores. Fisk anticipates sales of 75,000 units per year, an ordering cost of $8 per order, and carrying costs of $1.20 per unit. a. What is the economic ordering quantity? b. How many orders will be placed during the year? c. What will the average inventory be? 7-11 Chapter 07: Current Asset Management d. What is the total cost of ordering and carrying inventory? 7-13. Solution: Fisk Corp. a. EOQ = 2SO 2 75,000 $8 = = 1,000 units C $1.20 b. 75,000 units/1,000 units = 75 orders c. EOQ/2 = 1,000/2 = 500 units (average inventory) = $ 600 = 600 = $1,200 d. 75 orders $8 ordering cost 500 units $1.20 carrying cost per unit Total costs 14. Economic ordering quantity (LO5) (See Problem 13 for basic data.) In the second year, Fisk Corporation finds that it can reduce ordering costs to $2 per order but that carrying costs will stay the same at $1.20. Also, volume remains at 75,000 units. a. Recompute a, b, c, and d in Problem 13 for the second year. b. Now compare years one and two and explain what happened. 7-14. Solution: Fisk Corp. (Continued) EOQ = a. = 2SO 2 75,000 $2 = C $1.20 $300,000 = 250,000 = 500 units $1.20 75,000 units/500 units = 150 orders EOQ/2 = 500/2 = 250 units (average inventory) 150 orders $2 ordering cost 7-12 = $300 Chapter 07: Current Asset Management 250 units $1.20 carrying cost per unit Total costs = 300 = $600 b. The number of units ordered declines 50%, while the number of orders doubles. The average inventory and total costs both decline by one-half. Notice that the total cost did not decline in equal percentage to the decline in ordering costs. This is because the change in EOQ and other variables () is proportional to the square root of the change in ordering costs (). 15. Economic ordering quantity with safety stock (LO5) Diagnostic Supplies has expected sales of 135,000 units per year, carrying costs of $3 per unit, and an ordering cost of $4 per order. a. What is the economic order quantity? b. What is the average inventory? What is the total carrying cost? c. Assume an additional 80 units of inventory will be required as safety stock. What will the new average inventory be? What will the new total carrying cost be? 7-15. Solution: Diagnostic Supplies a. EOQ = = 2SO 2 135,000 $4 = C $3 $1,080,000 = $360,000 = 600 units $3 b. EOQ/2 = 600/2 = 300 units (average inventory) 300 units $3 carrying cost/unit = $900 total carrying cost 7-13 Chapter 07: Current Asset Management c. Average inventory = = EOQ + Safety Stock 2 600 + 80 = 300 + 80 = 380 2 380 inventory $3 carrying cost per year = $1,140 total carrying cost 16. Level versus seasonal production (LO5) Wisconsin Snowmobile Corp. is considering a switch to level production. Cost efficiencies would occur under level production, and aftertax costs would decline by $30,000, but inventory would increase by $250,000. Wisconsin Snowmobile have to finance the extra inventory at a cost of 13.5 percent. a. Should the company go ahead and switch to level production? b. How low would interest rates need to fall before level production would be feasible? 7-16. Solution: Wisconsin Snowmobile Corporation a. Inventory increases by interest expense Increased costs Savings Less: Increased costs Loss $250,000 13.5% $ 33,750 $30,000 ($33,750) ($ 3,750) Don't switch to level production. b. If interest rates fall to 12% or less, the switch would be feasible. 7-14 Chapter 07: Current Asset Management $30,000 Savings = 12% $250,000 increased inventory However, the decision is more complicated because it depends on expectations for interest rates. If the extra inventory were considered permanent current assets and was financed by locking in long-term interest rates below 12%, then it would make sense to switch. However, given that short-term rates are volatile; this decision can't be made on a dip in short-term interest rates below 12%. 17. Credit policy decision (LO4) Johnson Electronics is considering extending trade credit to some customers previously considered poor risks. Sales would increase by $100,000 if credit is extended to these new customers. Of the new accounts receivable generated, 10 percent prove will to be uncollectible. Additional collection costs will be 3 percent of sales, and production and selling costs will be 79 percent of sales. The firm is in the 40 percent tax bracket. a. Compute the incremental income after taxes. b. What will Johnson's incremental return on sales be if these new credit customers are accepted? c. If the receivable turnover ratio is 6 to 1, and no other asset buildup is needed to serve the new customers, what will Johnson's incremental return on new average investment be? 7-17. Solution: Johnson Electronics a. Additional sales................................................... $100,000 Accounts uncollectible (10% of new sales)......... 10,000 Annual incremental revenue................................ $ 90,000 Collection costs (3% of new sales)...................... 3,000 Production and selling costs (79% of new sales)......................................... 79,000 Annual income before taxes................................ $ 8,000 Taxes (40%)........................................................ 3,200 Incremental income after taxes............................ $ 4,800 7-15 Chapter 07: Current Asset Management b. Incremental return on sales = Incremental income Incremental sales = $4,800 / $100,000 = 4.8% c. Receivable turnover = Sales/Receivable turnover = 6x Receivables = Sales/Receivable turnover = $100,000/6 = $16,666.67 Incremental return on new average investment = $4,800/$16,666.67 = 28.80% 18. Credit policy decision-receivables and inventory ( LO4 & 5) Henderson Office Supply is considering a more liberal credit policy to increase sales, but expects that 8 percent of the new accounts will be uncollectible. Collection costs are 5 percent of new sales, production and selling costs are 78 percent; and accounts receivable turnover is five times. Assume income taxes of 30 percent and an increase in sales of $60,000. No other asset buildup will be required to service the new accounts. a. What is the level of accounts receivable to support this sales expansion? b. What would be Henderson's incremental aftertax return on investment? c. Should Henderson liberalize credit if a 15 percent aftertax return on investment is required? Assume that Henderson also needs to increase its level of inventory to support new sales and that inventory turnover is four times. d. e. What would be the total incremental investment in accounts receivable and inventory to support a $60,000 increase in sales? Given the income determined in part b and the investment determined in part d, should Henderson extend more liberal credit terms? 7-18. Solution: 7-16 Chapter 07: Current Asset Management Henderson Office Supply a. Investment in accounts receivable = $60,000 = $12,000 5 $ 60,000 4,800 $ 55,200 3,000 46,800 $ 5,400 1,620 $ 3,780 b. Added sales......................................................... Accounts uncollectible (8% of new sales)........... Annual incremental revenue................................ Collection costs (5% of new sales)...................... Production and selling costs (78% of new sales) Annual income before taxes................................ Taxes (30%)........................................................ Incremental income after taxes............................ Return on incremental investment = $3,780 = 31.5% 12,000 7-18. (Continued) c. d. Yes! 31.5% exceeds the required return of 15%. $60,000 = $15,000 4 Total incremental investment Investment in inventory = Inventory Accounts receivable Incremental investment $15,000 12,000 $27,000 7-17 Chapter 07: Current Asset Management $3,780/$27,000 = 14% return on investment e. 19. No! 14% is less than the required return of 15%. Credit policy decision with changing variables (LO4) Comiskey Fence Co. is evaluating the extension of credit to a new group of customers. Although these customers will provide $180,000 in additional credit sales, 12 percent are likely to be uncollectible. The company will also incur $15,700 in additional collection expense. Production and marketing costs represent 70 percent of sales. The firm is in a 34 percent tax bracket and has a receivables turnover of five times. No other asset buildup will be required to service the new customers. The firm has a 10 percent desired return. a. Should Comiskey Fence Co. extend credit to these customers? b. Should credit be extended if 15 percent of the new sales prove uncollectible? c. Should credit be extended if the receivables turnover drops to 1.5, and 12 percent of the accounts are uncollectible (as in part a)? 7-19. Solution: Comiskey Fence Co. a. Added sales........................................................... $180,000 Accounts uncollectible (12% of new sales)............ 21,600 Annual incremental revenue.................................. 158,400 Collection costs..................................................... 15,700 Production and selling costs (70% of new sales)............................................... 126,000 Annual income before taxes................................... 16,700 Taxes (34%).......................................................... 5,678 Incremental income after taxes.............................. $ 11,022 $36,000 in 7-18 Chapter 07: Current Asset Management Receivable turnover = 5.0x $180,000 = new receivables 5.0 $11,022 = 30.62% $36,000 Return on incremental investment = Yes, extend credit to these customers since the incremental return of 30.62% is greater than 10%. 7-19. (Continued) b. Same as above except accounts uncollectible are $15% of $180,000 or $27,000. This is $5,400 more than the value in part a. This means a reduction in incremental income after taxes of $3,564 to $7,458. The value can also be computed as: Added sales......................................................... $180,000 Accounts uncollectible (15% of new sales)......... 27,000 Annual incremental revenue................................ $153,000 Collection costs................................................... 15,700 Production and selling costs (70% of new sales)............................................. 126,000 Annual income before taxes................................ 11,300 Taxes (34%)........................................................ 3,842 Incremental income after taxes............................ $ 7,458 Return on incremental investment = $7,458 = 20.72% $36,000 7-19 Chapter 07: Current Asset Management Yes, extend credit. c. If receivable turnover drops to 1.5x, the investment in accounts receivable would equal $180,000/1.5 = $120,000 instead of the $36,000 required in part a. The return on incremental investment, assuming a 12% uncollectible rate, is 9.19%. Return on incremental investment = $11,022 = 9.19% $120,000 The credit should not be extended. 9.19% is less than the desired 10%. 20. Continuation of Problem 19 (LO4) Reconsider problem 19C. Assume the average collection period is 120 days. All other factors are the same (including 12 percent uncollectibles). Should credit be extended? 7-20. Solution: Comiskey Fence Company (Continued) First compute the new accounts receivable balance. Accounts receivable = average collection average daily period sales 120 days $180,000 = 120 $500 = $60,000 360 days or 360 days = 3x 120 days Accounts receivable = sales/accounts receivable turnover Accounts receivable turnover = $180,000 / 3 = $60,000 7-20 Chapter 07: Current Asset Management Then compute return on incremental investment. $11,022 = 18.37% $60,000 Yes, extend credit. 18.37% is greater than 10%. 21. Credit policy and return on investment (LO4) Global Services is considering a promotional campaign that will increase annual credit sales by $400,000. The company will require investments in accounts receivable, inventory, and plant and equipment. The turnover for each is as follows: Accounts receivable.................................... Inventory..................................................... Plant and equipment.................................... 4x 8x 2x All $400,000 of the sales will be collectible. However, collection costs will be 4 percent of sales, and production and selling costs will be 76 percent of sales. The cost to carry inventory will be 8 percent of inventory. Depreciation expense on plant and equipment will be 5 percent of plant and equipment. The tax rate is 30 percent. a. b. c. d. e. f. g. Compute the investments in accounts receivable, inventory, and plant and equipment based on the turnover ratios. Add the three together. Compute the accounts receivable collection costs and production and selling costs and add the two figures together. Compute the costs of carrying inventory. Compute the depreciation expense on new plant and equipment. Add together all the costs in parts b, c, and d. Subtract the answer from part e from the sales figure of $400,000 to arrive at income before taxes. Subtract taxes at a rate of 30 percent to arrive at income after taxes. Divide the aftertax return figure in part f by the total investment figure in part a. If the firm has a required return on investment of 12 percent, should it undertake the promotional campaign described throughout this problem. 7-21. Solution: Global Services a. Accounts receivable = sales/accounts receivable turnover 7-21 Chapter 07: Current Asset Management $100,000 = $400,000/4 Inventory = sales/inventory turnover $50,000 = $400,000/8 Plant and equipment = sales/(plant and equipment turnover) $200,000 = $400,000 / 2 $350,000 7-21. (Continued) b. Collection cost = 4% $400,000 $ 16,000 Production and selling costs = 76% $400,000 = 304,000 Total costs related to accounts receivable $320,000 c. Cost of carrying inventory 8% inventory 8% $50,000 total investment $4,000 d. Depreciation expense 5% $200,000 e. Total costs related to accounts receivable Cost of carrying inventory Depreciation expense Total costs Sales total costs $10,000 $320,000 4,000 10,000 $334,000 $400,000 334,000 f. 7-22 Chapter 07: Current Asset Management Income before taxes 66,000 7-23 Chapter 07: Current Asset Management Taxes (30%) Income after taxes g. Income after taxes $46,200 = = 13.2% Total investment 350,000 Yes, it should undertake the campaign. 19,800 $ 46,200 The aftertax return of 13.2% exceeds the required rate of return of 12%. 22. Continuation of Problem (LO4) In Problem 21, if inventory turnover had only been 4 times: a. What would be the new value for inventory investment? b. What would be the return on investment? You need to recompute the total investment and the total costs of the campaign to work toward computing income after taxes. Should the campaign be undertaken? 7-22. Solution: Global Services (Continued) a. b. Inventory = sales/inventory turnover $100,000 = $400,000/4 New Total Investment Accounts receivable $100,000 Inventory 100,000 Plant and equipment 200,000 $400,000 Total Cost of the Campaign Cost of carrying inventory 8% $100,000 = $8,000 7-24 Chapter 07: Current Asset Management New Income After Taxes Sales total costs Income before taxes Taxes (30%) Income after taxes Return on investment = Income after taxes = Total investment $400,000 342,000 58,000 17,400 $ 40,600 ($334,000 + $8,000 additional inventory costs) $ 40,600 = 10.15% 400,000 No, the campaign should not be undertaken. The after tax return of 10.15% is less than the required rate of return of 12%. (Problems 23-26 are a series and should be taken in order.) 23. Credit policy decision with changing variables (LO4) Dome Metals has credit sales of $144,000 yearly with credit terms of net 30 days, which is also the average collection period. Dome does not offer a discount for early payment, so its customers take the full 30 days to pay. What is the average receivables balance? Receivables turnover? 7-23. Solution: Dome Metals Sales/360 days = average daily sales $144,000/360 = $400 Accounts receivable balance = $400 30 days = $12,000 Sales $144,000 = = 12 Receivable turnover = Receivables $12,000 or 7-25 Chapter 07: Current Asset Management 360 days/30 = 12x 24. If Dome offered a 2 percent discount for payment in 10 days and every customer took advantage of the new terms, what would the new average receivables balance be? Use the full sales of $144,000 for your calculation of receivables. 7-24. Solution: $400 10 days = $4,000 new receivable balance 25. If Dome reduces its bank loans, which cost 10 percent, by the cash generated from its reduced receivables, what will be the net gain or loss to the firm (don't forget the 2 percent)? Should it offer the discount? 7-25. Solution: Old receivables new receivables = Funds freed by with discount discount $12,000 $4,000 = $8,000 discount = $ 800 = (2,880) $(2,080) Savings on loan = 10% $8,000............ Discount on sales = 2% $144,000....... Net change in income from discount...... No! Don't offer the discount since the income from reduced bank loans does not offset the loss on the discount. 26. Assume that the new trade terms of 2/10, net 30 will increase sales by 15 percent because the discount makes the Dome's price competitive. If Dome earns 20 percent on sales before discounts, should it offer the discount? (Consider the same variables as you did for problems 23 through 25 as will as increase sales.) 7-26. Solution: 7-26 Chapter 07: Current Asset Management New sales = $144,000 1.15 Change in sales = $165,000 $144,000 Sales per day = $165,600/360 Average receivables balance = $460 10 Increase profit on new sales =20% $21,600 Reduced profit because = 2% $165,600 of discount Savings in interest cost ($12,000 $4,600) 10% Net change in income.......................................... Yes, offer the discount because total profit increases. = $165,000 = $ 21,600 = $460 = $ 4,600 = $ 4,320 = (3,312) = $ 740 1,748 COMPREHENSIVE PROBLEM Logan Distributing Company (receivables and inventory policy) (LO 04 & 05) Logan Distributing Company of Atlanta sells fans and heaters to retail outlets through out the Southeast. Joe Logan, the president of the company, is thinking about changing the firm's credit policy to attract customers away from competitors. The present policy calls for a 1/10, net 30 cash discount. The new policy would call for a 3/10, net 50 cash discount. Currently, 30 percent of Logan customers are taking the discount, and it is anticipated that this number would go up to 50 percent with the new discount policy. It is further anticipated that annual sales would increase from a level of $400,000 to $600,000 as a result of the change in the cash discount policy. The increased sales would also affect the inventory level. The average inventory carried by Logan is based on a determination of an EOQ. Assume sales of fans and heaters increase from 15,000 to 22,500 units. The ordering cost for each order is $200 and the carrying cost per unit is $1.50 (these values will not change with the discount). The average inventory is based on EOQ/2. Each unit in inventory has an average cost of $12. Cost of goods sold is equal to 65 percent of net sales; general and administrative expenses are 15 percent of net sales, and interest payments of 14 percent will only be necessary for the increase in the accounts receivable and inventory balances. Taxes will be 40 percent of beforetax income. a. Compute the accounts receivable balance before and after the change in the cash discount policy. Use the net sales (total sales minus cash discounts) to determine the average daily sales. b. Determine EOQ before and after the change in the cash discount policy. Translate this into average inventory (in units and dollars) before and after the change in the cash discount policy. 7-27 Chapter 07: Current Asset Management c. Complete the following income statement. Before Policy Change Net sales (Sales Cash discounts)................ Cost of goods sold......................................... Gross profit................................................... General and administrative expense............. Operating profit............................................. Interest on increase in accounts receivable and inventory (14%)................. Income before taxes...................................... Taxes............................................................. Income after taxes......................................... After Policy Change d. Should the new cash discount policy be utilized? Briefly comment. CP 7-1. Solution: Logan Distributing Company a. Accounts receivable = average collection average daily period sales Before Average collection period .30 10 days = 3 .70 30 days = 21 24 days (average acc. receivables) Average daily sales 7-28 Chapter 07: Current Asset Management Credit sales - Discount $400,000 - ( .01) ( .30 ) ( $400,000 ) = 360 days 360 days = = $400,000 - $1,200 360 days $398,800 360 days Average daily sales = $1,107.78 Accounts receivable = 24 days $1,107.78 = $26,586.72 before policy change After Average collection period .50 10 days = 5 .50 50 days = 25 30 days(avg. acc. receivables) CP 7-1. (Continued) Average daily sales Credit sales - discount $600,000 - ( .03) ( .50 ) ( $600,000 ) = 360 days 360 days = = $600,000 - $9,000 360 days $591,000 360 days Average daily sales = $1,641.67 7-29 Chapter 07: Current Asset Management Accounts receivable = 30 days $1,641.67 = $49,250.10 after policy change b. Before EOQ = 2SO C 2 15,000 $200 $6,000,000 = = 4,000,000 = 2,000 units $1.50 $1.50 After 2 22,000 $200 $9,000,000 = = 6,000,000 = 2, 449.49 $1.50 $1.50 Average inventory Before 2,000 = 1,000 units 2 1,000 units $12 = $12,000 7-30 Chapter 07: Current Asset Management CP 7-1. (Continued) After 2,449.49 1,224.75 units =or 1,225 (rounded) 2 c. 1,224.75 units $12 = $14,697 or $14,700 (rounded) After Policy Change $591, 000 384,150 206,850 88,650 118,200 3,550.45 114,649.55 45,859.82 $ 68,789.73 Net sales (sales cash discount) Cost of goods sold (65%) Gross Profit General and admin. expense (15%) Operating profit *Interest on increase in accounts receivable and inventory (14%) Income before taxes Taxes (40%) Income after taxes *14% AR 14% INV Before Policy Change $398,800 259,220 139,580 59,820 79,760 79,760 31,904 $ 47,856 = 14% ( $49,250.10 - $26,586.72 ) = 14% $22,663.38 =14% ( $14,697 - $12,000 ) = 14% $2.697 = $3,172.87 = $ 377.58 $3,550.45 d. The new cash discount policy should be utilized. The interest cost on the increased accounts receivable and inventory is small in comparison to the increased operating profit from the policy change. 7-31

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Arkansas Little Rock - FINC - 3343
Chapter 08: Sources of Short-Term FinancingChapter 8 Sources of Short-Term FinancingDiscussion Questions8-1. Under what circumstances would it be advisable to borrow money to take a cash discount? It is advisable to borrow in order to take a cash disco
Arkansas Little Rock - FINC - 3343
Chapter 09: Time Value of MoneyChapter 9 Time Value of MoneyDiscussion Questions9-1. How is the future value (Appendix A) related to the present value of a single sum (Appendix B)? The future value represents the expected worth of a single amount, wher
Arkansas Little Rock - FINC - 3343
Chapter 10: Valuation and Rates of ReturnChapter 10 Valuation and Rates of ReturnDiscussion Questions10-1. How is valuation of any financial asset related to future cash flows? The valuation of a financial asset is equal to the present value of future
Arkansas Little Rock - FINC - 3343
Chapter 11: Cost of CapitalChapter 11 Cost of CapitalDiscussion Questions11-1. Why do we use the overall cost of capital for investment decisions even when only one source of capital will be used (e.g., debt)? Though an investment financed by low-cost
Clarion - ACCOUNTING - 101
CHAPTER 1 THE ACCOUNTANT'S ROLE IN THE ORGANIZATION ACCOUNTANT'See the front matter of this Solutions Manual for suggestions regarding your choices of assignment material for each chapter.1-1 Management accounting measures, analyzes and reports financia
Clarion - ACCOUNTING - 101
CHAPTER 2 AN INTRODUCTION TO COST TERMS AND PURPOSES 2-1 A cost object is anything for which a separate measurement of costs is desired. Examples include a product, a service, a project, a customer, a brand category, an activity, and a department. 2-2 Dir
Clarion - ACCOUNTING - 101
CHAPTER 3 COST-VOLUME-PROFIT ANALYSIS NOTATION USED IN CHAPTER 3 SOLUTIONS SP: VCU: CMU: FC: TOI: Selling price Variable cost per unit Contribution margin per unit Fixed costs Target operating income3-1 Cost-volume-profit (CVP) analysis examines the beha
Clarion - ACCOUNTING - 101
CHAPTER 4 JOB COSTING 4-1Cost poola grouping of individual cost items. Cost tracingthe assigning of direct costs to the chosen cost object. Cost allocationthe assigning of indirect costs to the chosen cost object. Cost-allocation basea factor that links
Clarion - ACCOUNTING - 101
CHAPTER 5 ACTIVITY-BASED COSTING AND ACTIVITY-BASED MANAGEMENT 5-1 Broad averaging (or peanut-butter costing) describes a costing approach that uses broad averages for assigning (or spreading, as in spreading peanut butter) the cost of resources uniformly
Clarion - ACCOUNTING - 101
CHAPTER 6 MASTER BUDGET AND RESPONSIBILITY ACCOUNTING 6-1 a. b. c. d. The budgeting cycle includes the following elements: Planning the performance of the company as a whole as well as planning the performance of its subunits. Management agrees on what is
Clarion - ACCOUNTING - 101
CHAPTER 7 FLEXIBLE BUDGETS, DIRECT-COST VARIANCES, AND MANAGEMENT CONTROL 7-1 Management by exception is the practice of concentrating on areas not operating as expected and giving less attention to areas operating as expected. Variance analysis helps man
Clarion - ACCOUNTING - 101
CHAPTER 8 FLEXIBLE BUDGETS, OVERHEAD COST VARIANCES, AND MANAGEMENT CONTROL 8-1 Effective planning of variable overhead costs involves: 1. Planning to undertake only those variable overhead activities that add value for customers using the product or serv
Clarion - ACCOUNTING - 101
CHAPTER 9 INVENTORY COSTING AND CAPACITY ANALYSIS 9-1 No. Differences in operating income between variable costing and absorption costing are due to accounting for fixed manufacturing costs. Under variable costing only variable manufacturing costs are inc
Clarion - ACCOUNTING - 101
Clarion - ACCOUNTING - 101
CHAPTER 11 DECISION MAKING AND RELEVANT INFORMATION 11-1 1. 2. 3. 4. 5. The five steps in the decision process outlined in Exhibit 11-1 of the text are Identify the problem and uncertainties Obtain information Make predictions about the future Make decisi
Clarion - ACCOUNTING - 101
CHAPTER 12 PRICING DECISIONS AND COST MANAGEMENT 12-1 The three major influences on pricing decisions are 1. Customers 2. Competitors 3. Costs 12-2 Not necessarily. For a one-time-only special order, the relevant costs are only those costs that will chang
Clarion - ACCOUNTING - 101
CHAPTER 13 STRATEGY, BALANCED SCORECARD, AND STRATEGIC PROFITABILITY ANALYSIS 13-1 Strategy specifies how an organization matches its own capabilities with the opportunities in the marketplace to accomplish its objectives. 13-2 The five key forces to cons
Clarion - ACCOUNTING - 101
CHAPTER 14 COST ALLOCATION, CUSTOMER-PROFITABILITY ANALYSIS, AND SALES-VARIANCE ANALYSIS 14-1 Disagree. Cost accounting data plays a key role in many management planning and control decisions. The division president will be able to make better operating a
Clarion - ACCOUNTING - 101
CHAPTER 15 ALLOCATION OF SUPPORT-DEPARTMENT COSTS, COMMON COSTS, AND REVENUES 15-1 The single-rate (cost-allocation) method makes no distinction between fixed costs and variable costs in the cost pool. It allocates costs in each cost pool to cost objects
Clarion - ACCOUNTING - 101
CHAPTER 16 COST ALLOCATION: JOINT PRODUCTS AND BYPRODUCTS 16-1 Exhibit 16-1 presents many examples of joint products from four different general industries. These include: Industry Separable Products at the Splitoff Point Food Processing: Lamb Lamb cuts,
Clarion - ACCOUNTING - 101
CHAPTER 17 PROCESS COSTING 17-1 Industries using process costing in their manufacturing area include chemical processing, oil refining, pharmaceuticals, plastics, brick and tile manufacturing, semiconductor chips, beverages, and breakfast cereals. 17-2 Pr
Clarion - ACCOUNTING - 101
CHAPTER 18 SPOILAGE, REWORK, AND SCRAP 18-1 Managers have found that improved quality and intolerance for high spoilage have lowered overall costs and increased sales. 18-2 Spoilageunits of production that do not meet the standards required by customers f
Clarion - ACCOUNTING - 101
CHAPTER 19 BALANCED SCORECARD: QUALITY, TIME, AND THE THEORY OF CONSTRAINTS 19-1 Quality costs (including the opportunity cost of lost sales because of poor quality) can be as much as 10% to 20% of sales revenues of many organizations. Quality-improvement
Clarion - ACCOUNTING - 101
CHAPTER 20 INVENTORY MANAGEMENT, JUST-IN-TIME, AND SIMPLIFIED COSTING METHODS 20-1 Cost of goods sold (in retail organizations) or direct materials costs (in organizations with a manufacturing function) as a percentage of sales frequently exceeds net inco
Clarion - ACCOUNTING - 101
CHAPTER 21 CAPITAL BUDGETING AND COST ANALYSIS 21-1 No. Capital budgeting focuses on an individual investment project throughout its life, recognizing the time value of money. The life of a project is often longer than a year. Accrual accounting focuses o
Clarion - ACCOUNTING - 101
CHAPTER 22 MANAGEMENT CONTROL SYSTEMS, TRANSFER PRICING, AND MULTINATIONAL CONSIDERATIONS 22-1 A management control system is a means of gathering and using information to aid and coordinate the planning and control decisions throughout an organization an
Clarion - ACCOUNTING - 101
CHAPTER 1 THE ACCOUNTANTS ROLE IN THE ORGANIZATION See the front matter of this Solutions Manual for suggestions regarding your choices of assignment material for each chapter. 1-1 Management accounting measures and reports financial and nonfinancial info
Clarion - ACCOUNTING - 101
CHAPTER 2 AN INTRODUCTION TO COST TERMS AND PURPOSES 2-1 A cost object is anything for which a separate measurement of costs is desired. Examples include a product, a service, a project, a customer, a brand category, an activity, and a department. 2-2 Dir
Clarion - ACCOUNTING - 101
CHAPTER 3 COST-VOLUME-PROFIT ANALYSIS NOTATION USED IN CHAPTER 3 SOLUTIONS SP: VCU: CMU: FC: TOI: Selling price Variable cost per unit Contribution margin per unit Fixed costs Target operating income3-1 Cost-volume-profit (CVP) analysis examines the beha
Clarion - ACCOUNTING - 101
CHAPTER 4 JOB COSTING 4-1 Cost poola grouping of individual cost items. Cost tracingthe assigning of direct costs to the chosen cost object. Cost allocationthe assigning of indirect costs to the chosen cost object. Cost-allocation basea factor that links
Clarion - ACCOUNTING - 101
CHAPTER 5 ACTIVITY-BASED COSTING AND ACTIVITY-BASED MANAGEMENT 5-1 Broad averaging (or "peanut-butter costing") describes a costing approach that uses broad averages for assigning (or spreading, as in spreading peanut butter) the cost of resources uniform
Clarion - ACCOUNTING - 101
CHAPTER 6 MASTER BUDGET AND RESPONSIBILITY ACCOUNTING 6-1 a. b. c. d. The budgeting cycle includes the following elements: Planning the performance of the company as a whole as well as planning the performance of its subunits. Management agrees on what is
Clarion - ACCOUNTING - 101
CHAPTER 7 FLEXIBLE BUDGETS, DIRECT-COST VARIANCES, AND MANAGEMENT CONTROL 7-1 Management by exception is the practice of concentrating on areas not operating as expected and giving less attention to areas operating as expected. Variance analysis helps man
Clarion - ACCOUNTING - 101
CHAPTER 8 FLEXIBLE BUDGETS, OVERHEAD COST VARIANCES, AND MANAGEMENT CONTROL 8-1 Effective planning of variable overhead costs involves: 1. Planning to undertake only those variable overhead activities that add value for customers using the product or serv
Clarion - ACCOUNTING - 101
CHAPTER 9 INVENTORY COSTING AND CAPACITY ANALYSIS 9-1 No. Differences in operating income between variable costing and absorption costing are due to accounting for fixed manufacturing costs. Under variable costing only variable manufacturing costs are inc
Clarion - ACCOUNTING - 101
CHAPTER 10 DETERMINING HOW COSTS BEHAVE 10-1 1. 2. The two assumptions are Variations in the level of a single activity (the cost driver) explain the variations in the related total costs. Cost behavior is approximated by a linear cost function within the
Clarion - ACCOUNTING - 101
CHAPTER 11 DECISION MAKING AND RELEVANT INFORMATION 11-1 1. 2. 3. 4. 5. The five steps in the decision process outlined in Exhibit 11-1 of the text are Obtain information Make predictions about future costs Choose an alternative Implement the decision Eva
Clarion - ACCOUNTING - 101
CHAPTER 12 PRICING DECISIONS AND COST MANAGEMENT 12-1 The three major influences on pricing decisions are 1. Customers 2. Competitors 3. Costs 12-2 Not necessarily. For a one-time-only special order, the relevant costs are only those costs that will chang
Clarion - ACCOUNTING - 101
CHAPTER 13 STRATEGY, BALANCED SCORECARD, AND STRATEGIC PROFITABILITY ANALYSIS 13-1 Strategy specifies how an organization matches its own capabilities with the opportunities in the marketplace to accomplish its objectives. 13-2 The five key forces to cons
Clarion - ACCOUNTING - 101
CHAPTER 14 COST ALLOCATION, CUSTOMER-PROFITABILITY ANALYSIS, AND SALES-VARIANCE ANALYSIS 14-1 Disagree. Cost accounting data plays a key role in many management planning and control decisions. The division president will be able to make better operating a
Clarion - ACCOUNTING - 101
CHAPTER 15 ALLOCATION OF SUPPORT-DEPARTMENT COSTS, COMMON COSTS, AND REVENUES 15-1 The single-rate (cost-allocation) method makes no distinction between fixed costs and variable costs in the cost pool. It allocates costs in each cost pool to cost objects
Clarion - ACCOUNTING - 101
CHAPTER 16 COST ALLOCATION: JOINT PRODUCTS AND BYPRODUCTS 16-1 Exhibit 16-1 presents nine examples of joint products from four different general industries. These include: IndustrySeparable Products at the Splitoff Point Food Processing: Lamb Lamb cuts, t
Clarion - ACCOUNTING - 101
CHAPTER 17 PROCESS COSTING 17-1 Industries using process costing in their manufacturing area include chemical processing, oil refining, pharmaceuticals, plastics, brick and tile manufacturing, semiconductor chips, beverages, and breakfast cereals. 17-2 Pr
Clarion - ACCOUNTING - 101
CHAPTER 18 SPOILAGE, REWORK, AND SCRAP 18-1 Managers have found that improved quality and intolerance for high spoilage have lowered overall costs and increased sales. 18-2 Spoilageunits of production that do not meet the standards required by customers f
Rutgers - EXPOSITORY - 101
Lee 1 Raymond Lee Expository Writing 101 Terrill Assignment # 3 Final Draft Phase of Disorder Within a System Steven Johnson's essay, "The Myth of the Ant Queen," highlights how disorder worked in a system, specifically in Manchester. Disorder is simply t
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Daniel Yoon Expository Writing 101 Professor Brennan September 23, 2010The psychological system comprises primarily of complex defense mechanisms in order to preserve the fragile human mind. Whether it is a mere insult from a stranger, or a personal atta
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Daniel Yoon Expository Writing 101 Professor Brennan October 19, 2010Understanding the flexibility of the human mind, it becomes simple to imagine that creation of context can alter the past, present, and future circumstance. A prime example is the proce
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Daniel Yoon Expository Writing 101 Professor Brennan October 19, 2010Initially I was honored, overwhelmed, and confused as to what I could contribute to Professor Nafisi's discussion among esteemed guests. However once she obliged me with the topic I was
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Daniel Yoon Expository Writing 101 Professor Brennan November 4, 2010Understanding "who we are?" would be a noteworthy accomplishment, however merely grasping the idea of "where we are?" would be a momentous achievement. Since the earliest signs of civil
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Daniel Yoon Expository Writing 101 Professor Brennan November 4, 2010Understanding "who we are?" would be a noteworthy accomplishment, however merely grasping the idea of "where we are?" would be a momentous achievement. Since the earliest signs of civil
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Daniel Yoon Expository Writing 101 Professor Brennan October 12, 2010The psychological system comprises primarily of complex defense mechanisms in order to preserve the fragile human mind. Whether it is a mere insult from a stranger, or a personal attack
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p.416 final paragraph p417 first paragraph MIDTERM Introduction with a thesis at the end of it A supporting paragraph linking the Nafisi with Gilbert A supporting paragraph linkin Nafisi with Gladwell A conclusion Audigger92@yahoo.com tpschep@hotmail.co
Rutgers - EXPOSITORY - 101
Daniel Yoon Expository Writing 101 September 23, 2010The idea of a panorama is to present the full unbroken view of a surrounding or observation. Likewise the story concerning the events that took place aboard the IRT train on December 22, 1984 presented
Rutgers - EXPOSITORY - 101
Daniel Yoon Expos 101 Oral reportQuestion: Upon entering the work force and finding a career, the "stock option" becomes a decision that most of us will make. However with the recent financial crisis and lack of early education in the subject, the idea o
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Arnold Cheng 11/9/10 Expos Sec FO Paper 4 Final Draft The Seeming Truth Throughout the ages, humans have always pursued and sought after the truth, a forever "gray-area" subject. In his writing, "How to Tell a True War Story," author Tim O'Brien discusses
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Nyc broken mirror theory Human psyche Goetz Goetz plus nyc connection Daniel Yoon Expository Writing 101 September 8, 2010In response to the sharp and alarming rise in criminal activity in New York City, the Broken Windows theory proposed by criminologis
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Lee 1 Ray Lee Expository Writing 101 Terrill Assignment #2 Final Draft How Human Natural Tendencies Influenced The Citadel The Citadel has been regarded for many years as a public military college with many prides and traditions. However, the normal way o
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Daniel Yoon Expository Writing 101 Professor Brennan October 19, 2010The intense oppression existing in Tehran, Iran during Nafisi's tenure resulted in thousands of struggles for independence, specifically for women. In an effort to foster female toleran
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DateTurn inHave ReadClass ActivityAssignmen tNoteREVISED 10/7/10 Timothy C. Brennan "Expoz" Section: LS Office Hours T 6:30-7:30 LSH B215 Or by appointment101:E-mail address: timbren@aol.com T TH 5:00-6:20 Room LSHB112 Writing Program Phone (732)