working capital management

Question 1

what is working capital

Answer 1

referring to current assets

Question 2

what is net working capital

Answer 2

difference between current assets and current liabilities

Question 3

why is net working capital important?

Answer 3

measure of the firms liquidity (ability to meet current obligations as when they fall due, using current assets)

Question 4

what does a positive and negative NWC mean

Answer 4

high liquidity and low liquidity

Question 5

reasons that wcm is important

Answer 5

• lack thereoff affects a firm’s profits and cash flows
• assesses a firm’s liquidity or short term solvency (ability yo pay current liabilities as when they fall due - done with the current and quick ratios)
• helps us assess how efficient the firm is in managing its current assets and current liabilities

Question 6

what is the days inventory on hand ratio

Answer 6

how long inventory stays on the shelf - measuring efficient management of inventory

inventory (end of year)*365/cost of sales

Question 7

what does an increase in the day inventory on hand ratio mean?

Answer 7

less efficient management of inventory

Question 8

what is the accounts receivable collection period

Answer 8

how long it takes debtors to pay

trade receivables(end of year)*365/turnover or sales

Question 9

what does a decrease in debtors collection period mean

Answer 9

debtors paying back sooner

better management of trade receivables

Question 10

what are possible risks of improving debtor’s collection period

Answer 10

loss of customers

reduction of sales

Question 11

what is account payables days

Answer 11

the amount of days that it takes us to pay creditors

trade payables*365/cost of sales

Question 12

when is a reduction in creditors collection period good and when is it bad

Answer 12

good - exceeded creditors agreed period or taken advantage of early settlement discounts or cash discounts

bad - when the firm isnt taking advantage of discounts or hasnt exceeded credit terms yet

Question 13

what is the operating cycle

Answer 13

the time between purchasing inventory and the collection of cash from debtors (internet definition: An operating cycle is the amount of time a company spends between spending money operating activities and collecting money from the same operating activity. Operating cycle often focus on the purchase and sale of assets)

Question 14

formula for op cycle

Answer 14

days inventory on hand + accounts receivable period

Question 15

what is the cash conversion cycle?

Answer 15

time period between the receipt of cash from the debtors and paying the creditors

Question 16

formula for ccc

Answer 16

operating cycle - creditors collection period

Question 17

what does a zero CC mean?

Answer 17

creditors are paid as soon as we receive cash from debtors - creditors are fully financing inventory and debotrs

Question 18

what does a positive ccc mean

Answer 18

creditors are paid before debtors pay us - the company needs funds to finance inventory and debtors - creditors and company are both financing inventory and debtors

Question 19

what is does a negative ccc means

Answer 19

detbors pay pay us before payment to creditors is due - creditors are fully financing debtors and inventory. Since cash is received before creditors is due - we invest it to earn interest

Question 20

what is the conservative wcm strategy?

Answer 20

• high current assets to sales ratio
• less short term debt
• lots of long term debt
• net working capital is positive
• less financial distress
• high carrying costs - storage, security, bad debts
• low shortage costs

Question 21

what is the aggressive wcm strategy

Answer 21

• lowcurrent assets to sales ratio
• more short term debt
• less long term debt
• net working capital is negative
• low liquidity
• more financial distress
• low carrying costs - storage, security, bad debts
• high shortage costs

Question 22

what are the costs of carrying too much or too little inventory

Answer 22

little - shortage costs

much - carrying costs

Question 23

what happens when inventory increases and decreases

Answer 23

increase: shortage cost increase and storage costs decrease
decrease: shortage cost decrease and storage costs increase

Question 24

what are the inventory management techniques

Answer 24

abc
twin bin
economic order
just-in-time

Question 25

what is the abc technique

Answer 25

three groups of classified inventory: - A - high values, low quant, close monitoring - B - moderate value moderate quantity C - low value high quantity

Question 26

what is the twin bin technique

Answer 26

two bins for each type of inventory - large bin for bulk stock and a smaller bin with enough stock to last the restocking period - as soon as the stock in the large bin is sold out order is placed and goods are sold from the smaller bin - new stock enough for both bins - new cycle begins

Question 27

what is the economic order quantity technique

Answer 27

mathematical model that determines the appropriate amount of inventory needed so as to minimize shortage and carrying costs

Question 28

what is the just in time technique

Answer 28

- suppliers deliver raw material just in time for it to be used on the production line - ensures that no inventory of raw materials is kept

Question 29

what are the advantages and disadvantages of granting credit

Answer 29

+: increases sales | - : increased exposure to bad debts

Question 30

components of a credit policy

Answer 30

``` terms of credit sales - credit period - cash settlement discount credit analysis collection policy ```

Question 31

what are the costs of granting credit

Answer 31

- carrying costs - shortage costs - if liberal credit policy - increase is carrying costs - if restrictive credit policy - increase in shortage cost

Question 32

what is credit analysis

Answer 32

done before granting credit to a customer - cathering relevant info, determining credit worthiness

Question 33

how is credit worthiness determined

Answer 33

5 C's of credit evaluation | credit scoring system

Question 34

what are the 5 C's of credit eval

Answer 34

character - willingness to meet financial obligatons capacity - ability to meet financial positions capital - financial worth or reserves collateral - assets pledged as security conditions - general economic conditions

Question 35

what is credit scoring

Answer 35

deciding to grant credit based on customer's rating

Question 36

what does the collection policy entail

Answer 36

continuously monitoring accounts receivables - keep an eye on average collection period relative to credit terms - use an aging schedule to determine percentage of receivables that are late in payment having a collection procedure

Question 37

what are the reasons for holding cash?

Answer 37

speculative motive - hold cash to take advantage of unexpected opportunities precautionary motive transaction motive - to pay day to day things

Question 38

what cost is incurred by a firm when it holds excess or substantial amounts of cash

Answer 38

``` opportunity cost (interest income foregone) ```