Unit 7: Working Capital Management Flashcards
Net working capital
(Formula)
Current Assets - current liabilities
Working capital policy applies to —— term decisions, capital structure applies to ——- term decisions
Short ; long
Permanent working capital
The minimum level of current assets maintained by a firm.
Conservative working capital policy
Keeps a high amount of working capital. Current ratio will be high
Aggressive working capital policy
Increase profitability by accepting reduced liquidity. Low current ratio.
3 motives for holding cash
1) transactional
2) precautionary
3) speculative
Annual Benefit : Reducing the float time of cash receipts
(formula)
(Daily cash receipts x Days of reduced float) x Opportunity cost of funds
Money market mutual funds invest in ____ term ____ risk securities
Short ; Low
________ are time deposits of U.S. dollars in banks located abroad
Eurodollars
________ are a form of savings deposit that cannot be withdrawn before maturity without a high penalty.
CDs
_________ consists of unsecured, short-term notes issued by large companies that are very good credit risks.
Commercial Paper
_______ are drafts drawn by a nonfinancial firm on deposits at a bank.
Banker’s acceptances
__________ are a means for dealers in government securities to finance their portfolios. Firm’s purchase government securities temporarily (few days) from a dealer.
Repurchase agreements (repos)
T-Bill maturity & interest
1 year or less ; note is sold at discount and interest paid at maturity. no interest rate.
T-notes maturity & interest
1 - 10 years; interest every 6 months
T-bonds maturity & interest
10 years + ; interest every 6 months
Payment Float
(Define)
the period from when the payor writes a check until the funds are subtracted from the payor’s account.
Formula for assessing the increased investment in A/R
Incremental variable cost x (incremental avg collection period/360)
What is factoring
Transfer of receivables to a 3rd party who assumes the responsibility of collection
What is a pledge
The use of receivables as collateral for a loan. Borrower agrees to use the collections to repay the loan
The objective of working capital finance is
To minimize the cost of maintaining liquidity (quick convertibility to cash to pay current obligations) while guarding against the risk of insolvency (inability to pay obligations as they come due).
Two means of speeding up cash receipts are
Lock box and concentration banking
Define the cash conversion cycle
the time that passes, on average, between the firm’s payment for a purchase of inventory and the collection of cash from a customer on the sale of that inventory
What are two different formulas that can be used to calculate average accounts receivable?
All of the following formulas can be used to calculate average accounts receivable:
(Beginning A/R + Ending A/R) ÷ 2
Daily credit sales × Average collection period
Net credit sales × (Average collection period ÷ Days in year)
Net credit sales ÷ Accounts receivable turnover
What formula is used to calculate the cost of a change in credit terms?
Increased investment in receivables × Opportunity cost of funds
What are the four costs related to inventory?
The four costs related to inventory are
Purchase costs
Carrying costs
Ordering costs
Stockout costs
What are carrying costs?
Carrying costs, which are associated with holding inventory, include
Storage,
Insurance,
Security,
Inventory taxes,
Depreciation or rent of facilities,
Interest,
Obsolescence and spoilage, and
The opportunity cost of funds invested in inventory.
Define ordering costs
Ordering costs are the costs of placing an order with a vendor. They are independent of the number of units ordered
What is the formula to calculate the reorder point?
(Average demand × Lead time) + Safety stock
What is the formula to calculate the total cost of carrying safety stock?
Cost of carrying safety stock = Expected stockout cost + Carrying cost
Describe a kanban inventory system
Under a kanban system, tickets control the flow of production. The tickets contain production information related to various stages of production to improve the overall production process.
