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