SMChap030 - Chapter 30 Working Capital Management CHAPTER...

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Chapter 30 - Working Capital Management CHAPTER 30 Working Capital Management Answers to Problem Sets 1. Cash conversion cycle = (inventory period + receivables period) − accounts payable period. Inventory period = [(9,587 + 14,544)/2]/[40,831/365] = 107.86 days. Receivables period = [(16,899 + 18,149)/2]/[60,138/365] = 106.36 days. Payables period = [(5,856 + 8,161)/2]/[40,831/365] = 62.65 days. Cash conversion cycle = 107.86 + 106.36 – 62.65 = 151.57 days. Est. Time: 01- 05 2. Cash conversion cycle = (inventory period + receivables period) − accounts payable period. a. A lower inventory turnover increases the inventory period, increasing the cash conversion cycle. b. A higher discount for cash lowers the receivable period, decreasing the cash conversion cycle. c. Reducing accounts payable decreases the accounts payable period, increasing the cash conversion cycle. d. Producing according to customer orders reduces inventory and the inventory period, decreasing the cash conversion cycle. e. An increase in raw materials increases inventory and the inventory period, increasing the cash conversion cycle. Est. Time: 01- 05 3. By holding large inventories, the firm avoids the risk of running out of materials and finished goods. It can order materials in larger quantities and arrange longer production runs. On the other hand, inventories tie up capital, must be stored and insured, and may be subject to damage. Similarly, large cash inventories reduce the risk of running out of cash or having to sell securities at short notice. The firm needs to make less frequent sales of securities and therefore minimize the fixed costs of such sales. On the other hand, inventories of cash tie up capital. Est. Time: 01- 05 4. a. 1% of $1,000 = $10. 30-1
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Chapter 30 - Working Capital Management b. 1% for 30 days = 12.2% per annum simple interest (0.01 x 365/30), or 12.9% compound interest (1 + .122/12) 12 . c. (i) Shorter; (ii) longer; (iii) shorter Est. Time: 01- 05 5. a. Due lag decreases, therefore pay lag decreases. b. Due lag increases, therefore pay lag increases. c. Terms lag increases, therefore pay lag increases. Est. Time: 01- 05 6. Reject because PV of Q’s order = (.75 x 50)/1.10 1/2 − 40 = -$4.25 per iron, or − $4,250 in total Est. Time: 01- 05 7. a. Expected profit = p (1,200 − 1,050) − 1,050(1 − p ) = 0. Solving, p = .875. Therefore, grant credit if probability of payment exceeds 87.5%. b. Expected profit from selling to slow payer: .8(150) − .2(1,050) = −90. Break-even point for credit check: (.05 x 90 x units) − 12 = 0. Units = 2.67. Est. Time: 06- 10 8. Total expected profit on initial order = −40 + .8[( p 2 x 200) − 1,000(1 − p 2 )]/1.2 = 0. p 2 = .88, or 88%. Est. Time: 06-10 9. a. False. Exporters use irrevocable letters of credit. b. False. There are many factors affecting a credit decision. c. False. Should read collection agency or attorney. Est. Time: 01- 05 10. If variable increases (a) more willing; (b) less willing; (c) more willing Est. Time: 01- 05 30-2
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Chapter 30 - Working Capital Management 11. a. Decrease b. Decrease c. Increase Est. Time: 06- 10 12. Concentration banking; Fedwire; CHIPS; lockbox banking Est. Time: 01- 05 13. a. Less b. Less c. Invest the same amount d More Est. Time: 01- 05 14. Price of six-month bill = 100 – (6/12) x 1.4 = 99.3. Return = (100/99.3) 2 – 1 = .
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