Chapter 16: Short-Term Financial Planning
Committed Line of Credit
(more expensive because lender has skin in the game now): you have a year to decide on X amount of money
Secured Loans
- Bankers don't like taking inventory as collateral, it's useful - Bankers take accounts receivables from the company who ****ed them
Sources of Cash
- Increase long-term debt, equity, current liabilities - Decrease current assets, fixed assets
Flexible ST Financial Policies
- Large amounts of cash and marketable securities - Large amounts of inventory - Liberal credit policies (large accounts receivable) - Relatively low levels of short-term liabilities * High liquidity
AR period =
365/ Receivables turnover
what are Temporary Current Assets
Additional current assets added when sales are expected to increase on a seasonal basis
Which one of the following is directly related to increases in a firm's current assets
Carrying costs
Moore &Moore has just finished projecting its expected cash receipts and expenditures for next year. What is this projection called
Cash budget
Tri-City Grocers is a chain of grocery stores that just hired a new CFO. Which of the following actions would you expect this CFO to adopt given her statement that she wants to implement a more flexible financing policy for the firm
I. Easing the credit terms given to customers II. Increasing the amount of inventory carried by each grocery store III. Borrowing funds to keep more cash available for store operations
What is the relationship between the AR and Inventory period?
Inverse
What is the Cash Cycle?
Measures how long we need to finance inventory and receivables
What are permanent current Assets
The level of current assets the company retains regardless of any seasonality in sales
What is the Inventory Period?
Time inventory sits on the shelf
What is the AR period?
Time it takes to collect on receivables
What is the Operating Cycle?
Time required to receive inventory, sell it, and collect on the receivables generated from the sale of the inventory
What is the Compromise Policy?
borrow short-term to meet peak needs, and maintain a cash reserve for emergencies
Operating cycle =
inventory period + AR period
An increase in the accounts receivable period is most apt to
lengthen the cash cycle
NON-committed Line of Credit
only good when offered, no commitment for the next day
The accounts receivable period is the time that elapses between the _____ and the ____.
sale of inventory; collection of the receivable
What to consider when choosing the best Policy
- Cash reserves - Maturity hedging - Relative interest rates
Uses of Cash
- Decrease long-term debt, equity, current liabilities Increase current assets, fixed assets
Restrictive Policies: PROS
- Higher returns on long term assets - Lower carrying costs - S/T liabilities can be decreased more easily in case of economic downturn
How does the cash budget work?
- Identify sales and cash collections - Identify various cash outflows - Subtract outflows from inflows and determine investing and financing needs
Restrictive Policies: CONS
- Less liquidity for emergencies - Higher storage costs
Types of ST Unsecured Loans
- Line of Credit: Committed or Non-Committed - Revolving Credit
Flexible Policies: CONS
- Liquid securities = lower return - Financing S/T assets with L/T debt risky
Restrictive ST Financial Policies
- Low cash and marketable security balances - Low inventory levels - Little or no credit sales (low accounts receivable) - Relatively high levels of short-term liabilities *Low liquidity
Flexible Policies: PROS
- No difficulty meeting short-term obligations - Cash available for emergencies - Lower storage costs
What is a cash budget?
- Primary tool in short-run financial planning - Identify short-term needs and opportunities - Identify when short-term financing may be required
Shortage Costs
- costs that go up when you have low inventory and low AR
Carrying Costs
- costs that go up when you have more inventory and AR
Inventory period =
365/Inventory turnover
Revolving Credit
A longer non-committed agreement
The Fried Green Tomatoes Restaurant increased its operating cycle from 67 days to 71 days while the cash cycle decreased by 2 days. How have these changes affected the accounts payable period
Change in accounts payable period = (71 -67) + 2 = 6 days
Delphino's has sales for the year of $127,300 and cost of goods sold of $86,700. The firm carries an average inventory of $14,300 and has an average accounts payable balance of $13,600. What is the inventory period
Days in inventory = 365/($86,700/$14,300) = 60.20 days
LL Cross has annual sales of $2.12 million. The cost of goods sold is equal to 76 percent of sales. The average accounts receivable balance is$172,700 and the average accounts payable balance is $178,900. How many days on average does it take the firm to pay its suppliers
Days in payables = 365/[($2,120,000 ×.76)/$178,900] = 40.53 days
Which of these activities is a source of cash
Decreasing accounts receivable
Which one of these will increase the operating cycle
Decreasing the inventory turnover rate
Which of the following costs will tend to increase if a firm switches to a restrictive short-term financial policy from a flexible short-term policy
I. Lost sales due to out-of-stock items III. Cash-outs IV. Total annual order costs
Fun Stores has to restock a popular electronic game every three days as it completely sells out in that period of time. What is the inventory turnover rate for this game
Inventory turnover = 365/3 = 121.67 times
Which one of the following can occur if the operating cycle decreases while both the accounts receivable and the accounts payable periods remain constant
Inventory turnover rate increases
Which one of the following actions will decrease the operating cycle
Lessening the production time needed to manufacture a good for sale
Which of these actions is indicative of a restrictive short-term financial policy
Minimizing the cash balances held by the firm
Kar's currently has a 208-day operating cycle. The company is concentrating on increasing its inventory turnover rate from 7.9 to 8.2 times. What will the firm's new operating cycle be if it can effectively make this change
New operating cycle = 208 -365 / 7.9 + 365 / 8.2 = 206.31 day
Cash Cycle =
Operating Cycle - AP period
Which one of the following commences on the day inventory is purchased and ends on the day the payment for the sale of that inventory is collected? Assume all sales and purchases are on credit
Operating cycle
Which one of the following is a use of cash
Paying a supplier for inventory you purchased last month
Which activity is most apt to reduce the inventory period for a grocery store
Replacing slow-moving items with faster-selling products
The High Water Mark is operating at its optimal point. Which one of the following conditions exists given this firm's operating status
Shortage costs equal carrying costs
How can you improve the Operating Cycle/
Shorten AR and Inventory periods
T/F: An increase in the accounts payable period will decrease the cash cycle
True
T/F: The inventory period is the average number of days a firm holds inventory on its shelves
True
T/F: The number of days in the cash cycle can be positive, negative, or equal to zero
True
The cash cycle equals the
operating cycle minus the accounts payable period
A committed line of credit
provides greater assurance than a non committed credit line that funds will be available when needed by a firm