Week 4

Question 1

What is NWC?

Answer 1

Difference between CA and CL

Question 2

What is the firm’s insolvency risk?

Answer 2

The probability that a firm will be able to pay bills as they come due

Question 3

What is more profitable for most firms A or CA?

Answer 3

Assets

Question 4

How does the risk of insolvency decrease?

Answer 4

By increasing the ratio of CA to A

Because CA can be converted to cash in the short term

Question 5

What does the ratio of CL over total A indicate?

Answer 5

The % of assets that have been financed with short term liabilities.

Question 6

Why does increasing CL increase profitability?

Answer 6

Because the firm is using less expensive financing

Question 7

Why does increasing Cl increase risk?

Answer 7

Because more current liability results in more liabilities due within the next year.

Question 8

What is the cash conversion cycle (CCC)?

Answer 8

The time gap between when firms pay suppliers and when they receive payment from customers.

Question 9

What is the operating cycle (OC)?

Answer 9

Time from purchase raw materials to collection of cash from sales.

Question 10

What is the average age of inventory (AAI)?

Answer 10

Time from materials being acquired to finished goods sold

Question 11

What is the Average Collection Period (ACP)?

Answer 11

Time to collect Sales

Question 12

What is the average payment period (APP)?

Answer 12

Time to pay off credit purchases

Question 13

What is the permanent funding requirement?

Answer 13

If sales are constant, investment in the operating assets should be constant

Question 14

What are the seasonal funding requirements?

Answer 14

When firms sales are seasonal, investment in the operating cycle will vary

There will also be a permanent funding requirement for the minimum investment in operating assets

Question 15

What is an aggressive funding strategy?

Answer 15

Funds seasonal requirements with short term debt and permanent requirements with long term debt or equity.

Question 16

Why is the aggressive funding strategy riskier?

Answer 16

Because of interest rate swings and possible difficulties in obtaining needed short term financing

Question 17

What is the conservative funding strategy?

Answer 17

Both seasonal and permanent requirements financed long term debt or equity.

Long term debt is more costly
and always pays interest even when not using financing

Question 18

How can managers maximize shareholders’ wealth in consideration of the CCC?

Answer 18

• Minimize the length of the CCC
• Turnover inventory quickly, No stockouts
• Collect AR quickly, Without being too stringent
• Pay AP slowly, without damaging credit

Question 19

What is the ABC inventory System?

Answer 19

Group A
- Most intense monitoring because of high dollar investment
Group B
- Controlled through periodic checking
Group C
- Unsophisticated, 2 Bin method, reorder inventory when 1 bin of 2 empty.

Question 20

What is the economic order Quantity?

Answer 20

The trade-off between order costs and carrying costs

Question 21

What are order costs?

Answer 21

Fixed costs of placing and receiving an order

Question 22

What are carrying costs?

Answer 22

Variable costs per unit of holding an item

- Increases as order size increases

Question 23

What are the EOQ Variables?

Answer 23

S = Usage in Units 
O = Cost per order 
Q = Order Quantity 
C = Carrying costs

Question 24

What is lead time?

Answer 24

The time it takes to manufacture.

The time it takes to ship and pack the product or both

Question 25

What is the re-order point?

Answer 25

The inventory level at which an order should be placed

Question 26

What is the reorder point formula?

Answer 26

Days of lead time * Daily usage

Question 27

What is Safety Stock?

Answer 27

Most firms hold safety stock (Extra) to prevent stockouts of important items

Question 28

What is the Just in time method?

Answer 28

Minimizes inventory investment by having materials arrive at exactly the right time they are needed

• Manufacturing Efficiency