Chapter 21 Flashcards
What are the three current asset investment policies
- relaxed policy
-moderate policy
-restricted policy
What are the two basic questions in working capital management?
- What is the appropriate amount of working capital?
- How should working capital be financed
What is the relaxed policy?
CA investment policy that means a company holds onto a lot of cash, receivables and inventory relative to it’s sales
What is a moderate policy
CA investment policy in between relaxed and restricted
What is a restricted policy
CA investment policy that holds current assets to a minimum… exposes firm to risks
What is the optimal CA investment policy?
one that will maximize the firms long-run free cash flow
-changing technologies can lead to optimal changes
What are the primary sources of funds for operating current assets?
-Bank loans
-credit from supplies
-accrued liabilities
-long term debt
-common equity
What are permanent operating CA
The operating assets needed at low point of the buisness cycle
What are temporary operating CA
the extra CA due to sales increase during a cyclical upswing
What is the definition of operating CA financing policy
The way permanent and temporary assets are financed
Maturity Matching or “Self-Liquidating “ Approach
moderate CA approach
matches assets and liabilities maturities
-temporary assets financed with short term debt
-long term assets financed with long-term capital
What are the two issues with the maturity matching approach?
-The lives of assets are uncertain (can’t always perfectly match up)
- Some common equity must be used
Agressive Approach
-some of the permanent CA is financed with short-term debt b/c short term interest rates are lower
-keep getting new short-term loans
What are the risks of aggressive approach
dangers of loan renewals and rising interest rate problem
What is the conservative approach
- long term capital is used to finance all permanent assets and also to meet some seasonal needs
“storing liquidity” in the form of marketable security
Is the cost of short term or long-term debt more expensive
long term
why is short term debt riskier
- interest expense can fluctuate widely
-temporary recession may adversely affect its financial ratios
What are the advantages of short term debt:
- easy to arrange quickly
-increased flexibility
What is the Cash Conversion Cycle (CCC)
The length of time between the firm’s actual cash expenditure and its cash receipt from the sale of the product
-how long it takes to collect the cash from a sale
What are spontaneous sources of funding
AP and Accrual
What are the three parts of the CCC cycle
Inventory conversion period: how long it takes to sell something
Average Collection period: how long it takes to collect cash payment
Payable deferral period: the length of time supplier give to pay for purchase
Is a short or long CCC good
short - collect cash quicker
What are the benefits of reducing CCC
strong relationship between stock performance and low CCC
What are the goals when it comes to inventory management
Ensure inventory needed to sustain operation is available but carry the lowest level of inventory possible
What is the Just in time inventory system
receive goods only as they are needed
“remember from supply chain”
What is receivable management
when a firm sells good to a customer on credit
what does receivable management include:
-credit policy
-monitoring system
what is a credit policy
2/10, net 30
what are credit standards
how much financial strength a customer must have to qualify for credit
What is the accumulation of receivables
the total amount of AR outstanding at any given time
What are the two was to monitor receivable position
-DSO
-Aging Schedule
What is trade credit (AP)
when a firm makes a purchase on credit
what is the true price of trade credit
100% - the discount X the listed price… the price you’d actually pay
what is the finance charge of credit
the discount percentage X fixed price
What two can trade credit be broken down into
free trade credit and costly trade credit
what is free trade credit?
credit received during the discount period
what is costly trade credit
credit in excess of the free trade credit and whose cost is an implicit one based on the forgone discount
what is a transaction balance
balance that is used for routine payments
topic: cash management and target cash balance
what is a precautionary balance
needed for unforeseen fluctuations
topic: cash management and target cash balance
what is a compensating balance
amount needed to stay in bank… learned in acct.
What are the two cash management techniques
synchronizing cash flows and using float
What is synchromizing cash flows
A cash management technique that times cash receipts with cash outlays
What is using float
A cash management technique that is the difference between the balance shown in the firm checkbook and the balance on the bank record
-
what is a collection float?
don’t have revenue collection yet
what is disbursement float
dont have the money on the checkbook … bank hasn’t cleared the check yet so firm has less on books
which float do you not want
collection float - want to collect the money quickly
what are the techniques to speed up collections - Cash managment
lockbox system and electronic payments
Short term marketable securities are held for what three reasons
- liquidation just prior to scheduled transaction
-unexpected opportunities
-reduce company’s risk
