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Financial Accounting > Working Capital Management > Flashcards

Working Capital Management Flashcards

1
Q

What is net working capital ?

A

The money that a business has for it’s day to day operations.

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2
Q

What is the equation for working capital ?

A

Current Assets - Current Liabilities = Working Capital

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3
Q

What are some examples of current assets ?

A

Cash, Inventory and marketable securities

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4
Q

What are some examples of current liabilities ?

A

Taxation payable, long term loans maturing in a year and trade account payable

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5
Q

What is meant by the term current assets ?

A

These are assets which can be dissolved within a year

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6
Q

What are some factors that may influence working capital ?

A

Inventory requirement, Finance plans for customers, companies credit with suppliers.

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7
Q

What are the main objectives of working capital ?

A

Liquidity and Profitability

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8
Q

What is the cash operating cycle ?

A

The point where cash is invested into the production of a product til cash is collected

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9
Q

What is the cash operating cycle equation ?

A

Inventory turnover period + accounts receivable days - accounts payable days

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10
Q

How do you calculate accounts receivable days ?

A

Accounts receivable days = total receivables / credit sales revenue x 365 days

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11
Q

How do you calculate the accounts payable days ?

A

Average trade payables / credit purchases x 365 days

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12
Q

What is the accounts payable period ?

A

The average amount of time it takes for a company to settle debts with its suppliers.

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13
Q

What are some of the risks that could occur with increasing accounts payable days ?

A
  • Losing supplier goodwill
  • Losing prompt payment discounts
  • Suppliers increasing price
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14
Q

How do you calculate inventory holding period ?

A

Inventory holding period = average inventory / cost of sales x 365 days

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15
Q

How do you calculate current ratio ?

A

Current ratio = Current assets / Current liabilities

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16
Q

What does different numbers of the ratio imply

A

A ratio more than 1 implies that a company has enough cash to satisfy immediate liabilities.

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17
Q

Quick ratio/Acid Test

A

Current assets - inventories / current liabilities

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18
Q

What does a ratio of 1:1 imply with a quick ratio ?

A

The company has enough cash to meet existing liabilities

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19
Q

What is the equation for sales revenue / net working capital ratio ?

A

Sales revenue / current assets - current liabilities

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20
Q

What should you make sure to watch out for if the period is required ?

A

Make sure you apportion the ratio correctly. Year 365, months 12 and for weeks 52

21
Q

What should you make sure you do for inventory, receivables and payables ?

A

Use the average balance by taking the opening and closing balance on the SOFP and dividing by 2

22
Q

What are some limitations which could occur with ratio’s ?

A
  • They’re backwards looking
  • Seasonal businesses may have skewed results
  • Rapid growth or rapid inflation may distort the results
23
Q

What is overtrading ?

A

When a business has inadequate capital to support its sales

24
Q

What are some symptoms of overtrading ?

A
  • Rapid increase in sales revenue
  • Rapid increase in volume of assets
  • Some debt and liquidity ratios may alter dramtically
25
Q

What are some assumptions that EOQ has ?

A
  • Demand and lead time are constant and known
  • Purchase price is constant
  • No buffer stock is held
26
Q

What should you do when dealing with EOQ and bulk discounts ?

A
  • If the EOQ is smaller than the order size needed to get the discount, should the order size be increased above
27
Q

What is just in time about ?

A

JIT aims to eliminate/minimise inventory levels

28
Q

How does just in time work ?

A

Just in time works by manufacturing items at the exactly right time to meet customer needs

29
Q

What does JIT aim to eliminate ?

A

Just in time aims to eliminate any actives that don’t add value such as queues, delays and long lead times

30
Q

What is one of the main issues which could occur from offering receivables ?

A

Liquidity - Offering receivables will lead to less liquidity since a line of credit has been open and staff need to be paid before the debt matures
Profitability - Adding a line of credit may increase sales

31
Q

What may a credit policy include

A
  • Credit Worthiness check
  • Credit limit check
  • Monitor system
  • Active with payments
32
Q

How do you calculate the cost of financing receivables ?

A

Finance Cost = Receivables balance x interest (on overdraft)

33
Q

What could you do to improve your receivables collection period ?

A
  • Early settlement discount
34
Q

What are some considerations you should make for an early settlement discount ?

A
  • Whether the early settlement discount is worth the money you’re losing on the cost of your product
  • Having less capital tied up can be a saving for new projects and equipment
35
Q

What is factoring ?

A

Factoring is when a third party is used for credit

36
Q

What is non recourse factoring ?

A

If the client fails to pay. The factor takes on the risk not the business

37
Q

What is recourse factoring ?

A

If the customer doesn’t pay for the goods you owe the factor the money

38
Q

What are the benefits of factoring ?

A
  • Lower admin costs
  • Better cash flows as cash from sales in paid in advance from the factor
  • Credit protection
  • Increased business growth through sales
39
Q

What are the advantages of trade payables ?

A

Liquidity - Free source of finance
Profitability - May ruin reputation if not paid promptly

40
Q

What are the three main motives ascribed to holding cash ?

A

Transaction motive - day to day
Precautionary Motive - Unplanned events
Speculative motive - Market opportunities

41
Q

What are some consequences a company may face if they don’t have enough cash ?

A

Defaults, Bankruptcy, Poor industry relationships

42
Q

What is the aim of the baumol model ?

A

Baumol considers that businesses will need certain amounts of cash at a time similar to inventory and aims to calculate the most economical way to raise cash

43
Q

What are some of baumol model weaknesses ?

A
  • Cash isn’t always used at a constant rate
  • Cash inflows aren’t always regular
  • Buffer cash isn’t always held in short term investments
44
Q

Explain the Miller-Orr Model ?

A

The miller-orr model was designed to be a more realistic way of managing cash. Through the transfer of cash between securities and deposit accounts using limits.

45
Q

What do companies have to consider when making short term investments ?

A

Liquidity, ROI, Safety

46
Q

What are some options a company may choose for short term investments ?

A

Cash Alt (treasury bills), Bank account, shares

47
Q

What is the difference between fluctuating and permanent current assets ?

A

permeant - Meet immediate business needs
Fluctuating - Vary on demand

48
Q
A

Financial Accounting (6 decks)

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