3FA3 EXAM - 3FA3 EXAM CHAPTER 18 SHORT TERM FINANCE AND PLANNING Statement of change in financial position identity o Net working capital fixed assets=

3FA3 EXAM - 3FA3 EXAM CHAPTER 18 SHORT TERM FINANCE AND...

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3FA3 EXAM CHAPTER 18- SHORT TERM FINANCE AND PLANNING Statement of change in financial position identity oNet working capital + fixed assets= long-term debt + equity oNet working capital = cash + other CA- CL oCash = long term debt + equity + CL- current assets other than cash – fixed assets Sources of Cash oIncreasing long term debt, equity or CLoDecreasing CA other than cash or FAUses of Cash oDecreasing long term debt, equity or CLoIncreasing CA other than cash or FA Operating Cycle:the time period between the acquisition of inventory and when cash is collected from receivablesInventory period:the time it takes to acquire and sell inventoryAccounts receivable period:the time between sale of the inventory and collection of the receivableAccounts payable period: the time between receipt of inventory and pymt for itCash cycle:the time between cash disbursement and cash collection (operated cycle minus accounts payable period)Short term financial policySize of firm’s investments in current assets oFlexible/accommodative policy: maintain a relatively high ratio of current assets to sales oRestrictive policy: maintain a low ratio of current assets to sales Financing of current assets
oMeasured as the proportion of short term debt and long term debt used to finance CAoFlexible policy: less short term debt and more long term debtoRestrictive policy – more short term debt and less long term debtExamples of flexible short term policies:keep large balances of cash and marketable securities, make large investments in inventory, grant high credit levels Carrying costs:Costs that rise with increased levels of current assets, the costs to store and finance the assets Shortage costs:Cost that fall with increased levels of current assets, the costs to replenish assets 2 types of shortage costs1.Trading or order costs: order costs are the costs of placing an order for more cash or more inventory2.Costs related to lack of safety reserves: These are the costs of lost sales, lost customer goodwill, and disruption of production schedulesTemporary CA:sales or required inventory build-up are often seasonal, the additional current assets carried during the “peak” time Permanent CA:firms generally need to carry a minimum level of current assets at all times, level is constant Choosing the Best PolicyCash Reserves: policy implies surpluscash and little short term borrowing.Policy reduces the probability that thefirm would experience financial distress.However, the higher level of liquiditymeans that they will get lower returns oninvestments. (zero NPVMaturity Hedging:most firms try tomatch the maturities of assets andliabilities finance temp CA with shortterm debt, finance permanent CA and FA with long term debt and equity. Riskier bc short term interest rates are volatile Relative Interest Rates:short term rates are normally lower than long term rates, implies that it

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