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Working Cap - MGMT Questions

The document contains 11 accounting and finance word problems. The problems involve calculating costs of credit, loan agreements, differences in return on equity under different asset investment policies, inventory conversion periods, cash conversion cycles, impacts of lockbox systems, and effects of trade credit policies.

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1K views

Working Cap - MGMT Questions

The document contains 11 accounting and finance word problems. The problems involve calculating costs of credit, loan agreements, differences in return on equity under different asset investment policies, inventory conversion periods, cash conversion cycles, impacts of lockbox systems, and effects of trade credit policies.

Uploaded by

cmverma82
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOC, PDF, TXT or read online on Scribd
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1 Dixie Tours Inc. buys on terms of 2/15, net 30 days.

It does
not take discounts, and it typically pays 35 days after the
invoice date. Net purchases amount to $720,000 per year. What
is the nominal annual cost of its non-free trade credit?
(Assume a 365-day year.)

2 Inland Oil arranged a $10,000,000 revolving credit agreement


with a group of small banks. The firm paid an annual
commitment fee of one-half of one percent of the unused balance
of the loan commitment. On the used portion of the loan,
Inland paid 1.5 percent above prime for the funds actually
borrowed on an annual, simple interest basis. The prime rate
was at 9 percent for the year. If Inland borrowed $6,000,000
immediately after the agreement was signed and repaid the loan
at the end of one year, what was the total dollar cost of the
loan agreement for one year?

3 Jarrett Enterprises is considering whether to pursue a


restricted or relaxed current asset investment policy. The
firm’s annual sales are $400,000; its fixed assets are
$100,000; debt and equity are each 50 percent of total assets.
EBIT is $36,000, the interest rate on the firm’s debt is 10
percent, and the firm’s tax rate is 40 percent. With a
restricted policy, current assets will be 15 percent of sales.
Under a relaxed policy, current assets will be 25 percent of
sales. What is the difference in the projected ROEs between
the restricted and relaxed policies?

4 On average, a firm sells $2,000,000 in merchandise a month. It


keeps inventory equal to one-half of its monthly sales on hand
at all times. If the firm analyzes its accounts using a 365-day
year, what is the firm’s inventory conversion period?

5 Porta Stadium Inc. has annual sales of $80,000,000 and keeps


average inventory of $20,000,000. On average, the firm has
accounts receivable of $16,000,000. The firm buys all raw
materials on credit, its trade credit terms are net 35 days,
and it pays on time. The firm’s managers are searching for
ways to shorten the cash conversion cycle. If sales can be
maintained at existing levels but inventory can be lowered by
$4,000,000 and accounts receivable lowered by $2,000,000, what
will be the net change in the cash conversion cycle? Use a
365-day year. Round to the closest whole day.

6 You have recently been hired to improve the performance of


Multiplex Corporation, which has been experiencing a severe
cash shortage. As one part of your analysis, you want to
determine the firm’s cash conversion cycle. Using the
following information and a 365-day year, what is your
estimate of the firm’s current cash conversion cycle?

• Current inventory = $120,000.


• Annual sales = $600,000.
• Accounts receivable = $157,808.
• Accounts payable = $25,000.
• Total annual purchases = $365,000.
• Purchases credit terms: net 30 days.
• Receivables credit terms: net 50 days.

7 Cross Collectibles currently fills mail orders from all over


the U.S. and receipts come in to headquarters in Little Rock,
Arkansas. The firm's average accounts receivable (A/R) is $2.5
million and is financed by a bank loan with 11 percent annual
interest. Cross is considering a regional lockbox system to
speed up collections which it believes will reduce A/R by 20
percent. The annual cost of the system is $15,000. What is
the estimated net annual savings to the firm from implementing
the lockbox system?

8 Quickbow Company currently uses maximum trade credit by not


taking discounts on its purchases. Quickbow is considering
borrowing from its bank, using notes payable, in order to take
trade discounts. The firm wants to determine the effect of this
policy change on its net income. The standard industry credit
terms offered by all its suppliers are 2/10, net 30 days, and
Quickbow pays in 30 days. Its net purchases are $11,760 per
day, using a 365-day year. The interest rate on the notes
payable is 10 percent and the firm’s tax rate is 40 percent. If
the firm implements the plan, what is the expected change in
Quickbow’s net income?

Multiple Part:
(The following information applies to the next three problems.)

Callison Airlines is deciding whether to pursue a restricted or relaxed


working capital investment policy. Callison’s annual sales are
expected to total $3.6 million, its fixed assets turnover ratio equals
4.0, and its debt and common equity are each 50 percent of total
assets. EBIT is $150,000, the interest rate on the firm’s debt is 10
percent, and the firm’s tax rate is 40 percent. If the company follows
a restricted policy, its total assets turnover will be 2.5.
Under a relaxed policy, its total assets turnover will be 2.2.

9 If the firm adopts a restricted policy, how much will it save


in interest expense (relative to what it would be if Callison
were to adopt a relaxed policy)?

10 What is the difference in the projected ROEs between the


restricted and relaxed policies?

11 Assume now the company expects that if it adopts a restricted


policy, its sales will fall by 15 percent, EBIT will fall by 10
percent, but its total assets turnover, debt ratio, interest
rate, and tax rate will remain the same. In this situation,
what is the difference in the projected ROEs between the
restricted and relaxed policies?

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