o Halka Company is a no-growth firm.

Its a) 33 days
sales fluctuate seasonally, causing total assets to b) 37 days
vary from $320,000 to$410,000, but fixed assets c) 41 days
remain constant at $260,000. If the firm follows d) 45 days
a maturity matching (or moderate) working e) 49 days
capital financing policy, what is the most likely ANSWER: b
total of long-term debt plus equity capital? RATIONALE: Inventory conversion period = 38
days
a) $260,642 Receivables collection period = 19 days
b) $274,360 Payables deferral period = 20 days
c) $288,800 CCC = Inv. conv. period + Rec. coll. period − Pay.
d) $304,000 def. period = 37 days
e) $320,000
ANSWER: e o Whittington Inc. has the following data.
RATIONALE: Lower total asset range $320,000 What is the firm's cash conversion cycle?
Upper total asset range $410,000 Inventory conversion period = 41 days
Minimum total assets = FA + Min. CA = $320,000 Receivables collection period = 31 days
= LT Debt + Equity Payables deferral period = 38 days
A maturity matching policy implies that fixed
assets and permanent current assets are a) 31 days
financed with long-term sources. This is its most b) 34 days
likely level of long-term financing. c) 37 days
d) 41 days
o Cass & Company has the following What e) 45 days
is the firm's cash conversion cycle? ANSWER: b
Inventory conversion period = 50 days RATIONALE:Inventory conversion period = 41
Receivables collection period = 17 days days Receivables collection period = 31 days
Payables deferral period = 25 days Payables deferral period = 38 days
CCC = Inv. conv. period + Rec. coll. period − Pay.
a) 31 days def. period = 34 days
b) 34 days
c) 38 days o Inmoo Company's average age of
d) 42 days accounts receivable is 45 days, the average age of
e) 46 days accounts payable is 40 days, and the average age
ANSWER: d of inventory is 69 Assuming a 365-day year, what
RATIONALE:Inventory conversion period = 50 is the length of its cash conversion cycle?
days
Receivables collection period = 17 days a) 63 days
Payables deferral period = 25 days b) 67 days
CCC = Inv. conv. period + Rec. coll. period − Pay. c) 70 days
def. period = 42 days d) 74 days
e) 78 days
o Romano Inc. has the following data. ANSWER: d
What is the firm's cash conversion cycle? RATIONALE:CCC = Inv. conv. period + Rec. coll.
Inventory conversion period = 38 days period − Pay. deferral period
Receivables collection period = 19 days Age of receivables = Rec. conv. period = 45 days
Payables deferral period = 20 days Age of inventory = Inv. conv. period = 69 days
Age of payables = Pay. def. period = 40 days
 CCC = Inv. conv. period + Rec. coll. period − Pay. e. $407,944
deferral period = 74 days ANSWER: a
RATIONALE: Sales $3,500,000
o Singal is preparing its cash budget. It DSO 35 days
expects to have sales of $30,000 in January, Receivables = (Sales per day)(DSO) = Sales/365 ×
$35,000 in February, and DSO = $335,616
$35,000 in March. If 20% of sales are for cash,
40% are credit sales paid in the month after the o Edwards Enterprises follows a moderate
sale, and another 40% are credit sales paid 2 current asset investment policy, but it is now
months after the sale, what are the expected considering a change, perhaps to a restricted or
cash receipts for March? maybe to a relaxed The firm's annual sales are
$400,000; its fixed assets are
a. $24,057 $100,000; its target capital structure calls for 50%
b. $26,730 debt and 50% equity; its EBIT is $35,000; the
c. $29,700 interest rate on its debt is 10%; and its tax rate is
d. $33,000 40%. With a restricted policy, current assets will
e. $36,300 be 15% of sales, while under a relaxed policy
they will be 25% of sales. What is
the difference in the projected ROEs between the
Payments: restricted and relaxed policies.
20%
40% a) 4.25%
40% b) 4.73%
c) 5.25%
d) 5.78%
ANSWER: RATIONALE: e) 6.35%
Collections
SalesforMos.
$400,000 Debt ratio 50%
January $30,000
$100,000 EBIT $35,000
February 35,000
15% CA/Sales, relaxed 25%
March 35,000
Total collections for
month: ANSWER: RATIONALE:
Restricte
CA
o Dyl Pickle had credit sales of $3,500,000 $ 60,000
last year and its days sales outstanding was DSO FA 100,000
= 35 days. What was its average receivables Total assets $160,000
balance, based on a 365-day year?
Debt $ 80,000
a. $335,616 Equity 80,000
Total liab. & capital $160,000
b. $352,397 EBIT $ 35,000
Interest 8,000
c. $370,017
EBT $ 27,000
d. $388,518 Taxes 10,800
NI $ 16,200
 ROE Annual COGS = $24,000,000
Avg. inventory = $1,000,000
Difference in ROE = 5.25%
Inv. conv. period = Inv/COGS per day = Inv./
(Annual COGS/365) = 15.2 days
o Data on Shick for 2013 are shown below,
along with the days sales outstanding of the o Data on Shin Inc for 2013 are shown
firms against which it benchmarks. The firm's below, along with the inventory conversion
new CFO believes that the company could reduce period (ICP) of the firms against w it The firm's
its receivables enough to reduce its DSO to the new CFO believes that the company could reduce
benchmarks' average. If this were done, by how its inventory enough to reduce its ICP
much would receivables decline? Use a 365-day benchmarks' average. If this were done, by how
year. much would inventories decline? Use a 365-day
Sales year.
Accounts receivable Cost of goods sold =
Days sales outstanding (DSO) Inventory =
Benchmarks' days sales outstanding (DSO) Inventory conversion period (ICP) =
Benchmark inventory conversion period (ICP) =
a) $ 8,078
b) $ 8,975 a) $ 7,316
c) $ 9,973 b) $ 8,129
d) $10,970 c) $ 9,032
e) $12,067 d) $10,036
ANSWER: c e) $11,151
RATIONALE: Original Benchmarks' Receivables at ANSWER: e
Data Related DSO DSO Benchmark Level RATIONALE: Original Benchmarks' ICP at
Sales $110,000 Data Related ICP ICP Benchmark Level
Receivables and DSO $16,000 53.09 20.00 Cost of goods sold $85,000
New receivables = DSO × (Sales/365) = $6,027 Inventory and ICP $20,000 85.88 38.00
Reduction in receivables = Original receivables – New inventory = ICP × (COGS/365) = $8,849
New Receivables = $9,973 Reduction in inventories = Original Inv. – New Inv.
Alternative solution: (Change in DSO/Original = $11,151
DSO) × Original Alternative solution: (Change in ICP/Original ICP)
receivables = $9,973 × Original Inv. = $11,151

o Your firm's cost of goods sold (COGS) o Data on Wentz for 2013 are shown
average $2,000,000 per month, and it keeps below, along with the payables deferral period
inventory equal to 50% of its monthly COGS on (PDP) for the firms against which it benchmarks.
hand at all Using a 365-day year, what is its The firm's new CFO believes that the company
inventory conversion period? could delay payments enough to increase its PDP
to the benchmarks' average. If this were done, by
a) 7 days how much would payables increase? Use a 365-
b) 0 days day year.
c) 4 days Cost of goods sold = $75,000
d) 2 days Payables = $5,000
e) 7 days Payables deferral period (PDP) = 24.33
ANSWER: d Benchmark payables deferral period = 30.00
RATIONALE: Monthly COGS = $2,000,000
Inventory/COGS = 50.0%
 a) $ 764 − Payables deferral = Payables/
b) $ 849 (COGS/365) −25.3 days
c) $ 943 Cash conversion cycle (CCC) 148.0 days
d) $1,048
e) $1,164 o Dewey Corporation has the following
ANSWER: e data, in Assuming a 365-day year, what is the
RATIONALE: Original Benchmarks' Payables firm's cash conversion cycle?
Data Related PDP PDP Benchmark Level Annual sales = $45,00
Cost of goods sold $75,000
Annual cost of goods sold = $31,50
Inventory and PDP $5,000 24.33 30.00
New payables = PDP × (COGS/365) = $6,164 Inventory = $4,000
Reduction in payables = Original Payables – New Accounts receivable = $2,000
Payables = $1,164 Accounts payable = $2,400
Alternative solution: (Change in PDP/Original
PDP) × Orig. Payables = $1,164
a) 25 days
b) 28 days
o Your consulting firm was recently hired
c) 31 days
to improve the performance of Shin-Soenen Inc,
d) 35 days
which is highly profitable but has been
e) 38 days
experiencing cash shortages due to its high
growth As one part of your analysis, you want to d
determine the firm's cash conversion cycle. Using Annual sales
the following information and a 365-day year, Annual cost of goods sold (COGS)
what is the firm's present cash conversion cycle?
Inventory
Average inventory =
Accounts receivable
Annual sales =
Accounts payable
Annual cost of goods sold =
Days in year
Average accounts receivable =
Sales per day =
Average accounts payable =
COGS per day =
a) 6 days Inv. conv. period = Inv./COGS per day =
Rec. coll. period = Receivables/Sales per day =
b) 9 days Pay. def. period = Accounts payable/COGS per day =

c) 6 days
ANSWER: RATIONALE:
d) 6 days CCC = Inv. conv. period + Rec. coll. period − Pay.
def. period = 34.76 days
e) 0 days
ANSWER: e o Desai has the following data, in
RATIONALE:Avg. inventory = $75,000 Annual thousands. Assuming a 365-day year, what is the
sales = $600,000 firm's cash conversion cycle?
Avg. receivables = $160,000 Annual COGS = Annual sales = $45,000
$360,000 Annual cost of goods sold = $30,000
Avg. payables = $25,000 Days in year = 365
Inventory = $4,500
Inv Conv. period = Inv/(COGS/365) 76.0 days
+ DSO = Receivables/(Sales/365) 97.3 days Accounts receivable = $1,800
 Accounts payable = Days in year

a) 28 days a) 0 days
b) 32 days b) 4 days
c) 35 days c) 2 days
d) 39 days d) 3 days
e) 43 days e) 8 days
d Original
Annual sales Annual sales: unchanged $110,000
Annual cost of goods sold (COGS) Cost of goods sold: unchanged $80,000
Inventory Average inventory: lowered by $4,000 $20,000
Accounts receivable Average receivables: lowered by $2,000 $16,000
Accounts payable Average payables: increased by $2,000 $10,000
Days in year Days in year 365
Sales per day = Inv. conv. period = Inv./(COGS/365) = DSO = Receivables/ 91.25 days
COGS per day = (Sales/365) = 53.09 days
Payables deferral = Payables/(COGS/365) = CCC = Inv. 45.63 days
Inv. conv. period = Inv./COGS per day =
conv. + DSO − Pay. def. period = 98.72 days
Rec. coll. period = Receivables/Sales per day =
Change = 34.01 days
y. def. period = Accounts payable/COGS per day =

ANSWER: RATIONALE:
ANSWER: RATIONALE:
CCC = Inv. conv. period + Rec. coll. period − Pay. o Edison has annual sales of $36,500,000,
def. period = 38.93 days or $100,000 a day on a 365-day basis. The firm's
cost of goods sold is 75% of sales. On average,
o Zervos had the following data for 2013 the company has $9,000,000 in inventory and
(in millions). The new CFO believes (1) that an $8,000,000 in accounts receivable. The firm is
improved inventory management system could looking for ways to shorten its cash conversion
lower the average inventory by $4,000, (2) that cycle. Its CFO has proposed new policies that
improvements in the credit department could would result in a 20% reduction in both average
reduce receivables by $2,000, and (3) that the inventories and accounts receivable. She also
purchasing department could negotiate better anticipates that these policies would reduce sales
credit terms and thereby increase accounts by 10%, while the payables deferral period would
payable by $2,000. Furthermore, she thinks that remain unchanged at 35 days. What effect would
these changes would not affect either sales or these policies have on the company's cash
the costs of goods sold. If these changes were conversion cycle? Round to the nearest whole
made, by how many days would the cash day.
conversion cycle be lowered?
a) −26 days
Annual sales: unchanged b) −22 days
c) −18 days
Cost of goods sold: unchanged
d) −14 days
Average inventory: lowered by $4,000 e) −11 days
Average receivables: lowered by $2,000
Average payables: increased by $2,000
 Original 365
$36,500,000 $139,000
365 85%
$100,000 $118,150
75% $15,012,000
$75,000 Accounts receivable $10,008,000
$9,000,000 Pay. deferral period 30 days
nts receivable $8,000,000
eferral period 35 days

ANSWER: RATIONALE:
ction in sales Cash conversion cycle = Inv. conversion period +
Rec. collection period − Pay. deferral period
CCCOrig = 127.06 + 72.00 − 30.00 = 169.06 days
ANSWER: RATIONALE: CCCNew = 110.59 + 58.00 − 40.00 = 128.59 days
Cash conversion cycle = Inv. conversion period + CCCNew − CCCOrig = 128.59 − 169.06 = −40.47
Rec. collection period − Pay. deferral period days
CCCOrig = 120.00 + 80.00 − 35.00 = 165.00 days
CCCNew = 106.67 + 71.11 − 35.00 = 142.78 days
CCCNew − CCCOrig = 142.78 − 165.00 = −22.22 o Nogueiras Corp's budgeted monthly sales
days are $5,000, and they are constant from month to
40% of its customers pay in the first month and
o Van Den Borsh has annual sales of take the 2% discount, while the remaining 60%
$50,735,000, an average inventory level of pay in the month following the sale and do not
$15,012,000, and average accounts receivable of receive a discount. The firm has no bad debts.
$10,008,000. The firm's cost of goods sold is 85% Purchases for next month's sales are constant at
of sales. The company makes all purchases on 50% of projected sales for the next month.
credit and has always paid on the 30th day. "Other payments," which include wages, rent,
However, it now plans to take full advantage of and taxes, are 25% of sales for the current
trade credit and to pay its suppliers on the 40th month. Construct a cash budget for a typical
day. The CFO also believes that sales can be month and calculate the average cash gain or loss
maintained at the existing level but inventory can during the month.
be lowered by $1,946,000 and accounts
receivable by $1,946,000. What will be the net a) $1,092
change in the cash conversion cycle, assuming a
365-day year? b) $1,150

a) −26.6 days c) $1,210

b) −29.5 days
c) −32.8 days d) $1,271
d) −36.4 days
e) −40.5 days e) $1,334
Original ANSWER: c
RATIONALE: Monthly sales $5,000
$50,735,000
Monthly purchase
 % 50% Reduction in A/R = % reduction in A/R × Avg. A/R
Other payments: 25% balance Reduction in A/R = 20.00% × $2,500,000
Sales Month Next Month Reduction in A/R = $500,000
Payment pattern: 40% 60% Annual int. savings = Reduction in A/R × Annual
Discount 2% interest rate Annual int. savings = $500,000 ×
Cash budget: Last Current Next 11.00%
Month Month Month Annual int. savings = $55,000
Sales $5,000 $5,000 $5,000 Pre-tax net annual savings = Annual interest
savings − Annual lockbox cost Pre-tax net annual
Collections, same month's sales (% of Sales)(Sales)(1
savings = $55,000 − $15,000
Collections (last month's sales)
Pre-tax net annual savings = $40,000
Total collections
Purchases payments
o A firm buys on terms of 3/15, net It does
Other payments not take the discount, and it generally pays after
60 days. What is the nominal annual percentage
Total payments
cost of its non-free trade credit, based on a 365-
Net cash gain (loss) day year?

o Whitmer sells to customers all over the a) 25.09%

U.S., and all receipts come in to its headquarters
in New York City. The firm's average accounts b) 27.59%
receivable balance is $2.5 million, and they are
financed by a bank loan at an 11% annual c) 30.35%
interest rate. The firm is considering setting up a
regional lockbox system to speed up collections, d) 33.39%
and it believes this would reduce receivables by
20%. If the annual cost of the system is $15,000, e) 36.73%
what pre-tax net annual savings would be ANSWER: a
realized? RATIONALE: Discount % 3% Net days 45
Discount days 15 Actual days to payment 60
a) $29,160 Nom. % cost = Disc. %/(100 − Disc. %) × (365/
(Actual days − Disc. days)) Nom. % cost = 3.09% ×
b) $32,400 8.11 = 25.09%
The effective discount % is earned N times per
c) $36,000 year; the product is the nominal annual cost rate.

d) $40,000 o Atlanta Cement, buys on terms of 2/15,

net 30. It does not take discounts, and it typically
e) $44,000 pays 60 days after the invoice date. Net
purchases amount to $720,000 per year. What is
d
the nominalannualpercentagecost of its non-free
Average accounts receivable balance $2,500,000trade credit, based on a 365-day year?
Annual interest rate to finance A/R 11.00%
% Reduction in A/R 20.00% a) 10.86%
Annual lockbox cost $15,000
b) 12.07%

ANSWER: RATIONALE: c) 13.41%

 d) 14.90% e) 24.63%
ANSWER: d
e) 16.55% RATIONALE: Discount % 2% Net days 50
ANSWER: e Discount days 15 Actual days to payment 50
RATIONALE: Discount % 2% Net days 30 EAR = [1 + Disc. %/(100 − Disc. %)][365/(Actual
Discount days 15 Actual days to payment 60 days − Disc. Period)] −1 = 23.45%
Nom. % cost = Disc. %/(100 − Disc. %) × (365/
(Actual days − Disc. days)) Nom. % cost = 2.04% × o A firm buys on terms of 2/8, net 45 days,
8.11 = 16.55% it does not take discounts, and it actually pays
The effective discount % is earned N times per after 58 What is the effective annual percentage
year; the product is the nominal annual cost rate. cost of its non-free trade credit? (Use a 365-day
year.)
o Your company has been offered credit
terms of 4/30, net 90 What will be a) 14.34%
the nominalannualpercentagecost of its non-free
trade credit if it pays 120 days after the b) 15.10%
purchase? (Assume a 365-day year.)
c) 15.89%
a) 16.05%
d) 16.69%
b) 16.90%
e) 17.52%
c) 17.74% ANSWER: c
RATIONALE: Discount % 2% Net days 45
d) 18.63% Discount days 8 Actual days to payment 58
EAR = [1 + Disc. %/(100 − Disc. %)][365/(Actual
e) 19.56% days − Disc. Period)] −1 = 15.89%
ANSWER: b
RATIONALE: Discount % 4% Net days 90 o Buskirk Construction buys on terms of
Discount days 30 Actual days to payment 120 2/15, net 60 It does not take discounts, and it
Nom. % cost = Disc. %/(100 − Disc. %) × (365/ typically pays on time, 60 days after the invoice
(Actual days − Disc. days)) = 16.90% date. Net purchases amount to $450,000 per
year. On average, how much "free" trade credit
o Bumpas Enterprises purchases does the firm receive during the year? (Assume a
$4,562,500 in goods per year from its sole 365-day year, and note that purchases are net of
supplier on terms of 2/15, net If the firm chooses discounts.)
to pay on time but does not take the discount,
what is the effectiveannualpercentagecost of its a) $18,493
non- free trade credit? (Assume a 365-day year.)
b) $19,418
a) 20.11%
c) $20,389
b) 21.17%
d) $21,408
c) 22.28%
e) $22,479
d) 23.45% ANSWER: a
RATIONALE: Purchases $450,000 Net days 60
 Discount % 2% Days to payment 60 b) $56,384
Discount days 15 Days/Year 365
Purchases/day = $450,000/365 = $1,233 c) $59,203
Free credit = Disc. days × Purchases/day =
$18,493 d) $62,163

o Ingram Office Supplies, , buys on terms e) $65,271

of 2/15, net 50 days. It does not take discounts, ANSWER: a
and it typically pays on time, 50 days after the RATIONALE: Discount 2% Gross purchases
invoice date. Net purchases amount to $450,000 $800,000
per year. On average, what is the dollar amount Discount days 15 Days in year 365
of costly trade credit (total credit − free credit) Net days 40
the firm receives during the year? (Assume a Net purchases = Gross(1 − Disc. %) = $784,000
365-day year, and note that purchases are net of Net per day = Net/365 = $2,148
discounts.) Total trade credit = Net days × Net per day =
$85,918 Free credit = Net per day × Discount
a) $43,151 days = $32,219 Costly credit = Total credit − Free
credit = $53,699
b) $45,308
o Kirk Development buys on terms of 2/15,
c) $47,574 net 60 It does not take discounts, and it typically
pays on time, 60 days after the invoice date. Net
d) $49,952 purchases amount to $550,000 per year. On
average, what is the dollar amount of total trade
e) $52,450 credit (costly + free) the firm receives during the
ANSWER: a year, i.e., what are its average accounts payable?
RATIONALE: Purchases $450,000 Net days 50 (Assume a 365-day year, and note that purchases
Discount % 2% Days to payment 50 are net of discounts.)
Discount days 15 Days/Year 365
Purchases/day = $450,000/365 = $1,233 a) $ 90,411
Avg. trade credit = Average A/P = Days to
payment × Net purchases/day = $61,644 Free b) $ 94,932
trade credit = Discount days × Purchases/day =
$18,493 c) $ 99,678
Costly trade credit = Total credit − Free credit =
$43,151 d) $104,662
Alternatively, Costly TC = (Days to pmt. − Disc.
days) × (Purchases/day) = $43,151 e) $109,895
ANSWER: a
o Roton purchases merchandise on terms RATIONALE: Purchases $550,000 Net days 60
of 2/15, net 40, and its gross purchases (i.e., Discount % 2% Days to payment 60
purchases before taking off the discount) are Discount days 15 Days/Year 365
$800,000 per year. What is the maximum dollar Purchases/day = $550,000/365 = $1,507
amount of costly trade credit the firm could get, Average trade credit = Average A/P = Days to
assuming it abides by the supplier's credit terms? payment × Net purchases/day = $90,411
(Assume a 365-day year.)
o Affleck 's business is booming, and it
a) $53,699 needs to raise more capital. The company
 purchases supplies on terms of 1/10, net 20, and
Fee on unused balance 0.5%
it currently takes the discount. One way of
acquiring the needed funds would be to forgo Prime rate 9.0%
the discount, and the firm's owner believes she Premium over prime 1.5%
could delay payment to 40 days without adverse Amount borrowed $6,000,000
effects. What would be the effective annual
percentage cost of funds raised by this action?
(Assume a 365-day year.) ANSWER: RATIONALE:
Interest rate on borrowed funds = Prime + Premium =
a) 10.59% Cost of used portion = Amount borrowed × Rate =
Cost of unused portion: Unused balance × Fee =
b) 11.15%
Total annual cost of loan agreement =
c) 11.74% Alternative solution:
Rate per day = 10.5%/365 =
d) 12.36% Interest per day = (Rate per day)(Amount borrowed) =
Interest per year = (Interest per day)(365) =
e) 13.01%
ANSWER: e Cost of unused portion: Unused balance × Fee =
RATIONALE: Discount % 1% Net days 20 Total annual cost of loan agreement =
Discount days 10 Actual days to payment 40
EAR = [1 + Disc. %/(100 − Disc. %)][365/(Actual o Soenen had the following data for 2013
days − Disc. Period)] −1 = 13.01% (in millions). The new CFO believes that the
company could improve its working capital
o Weiss arranged a $9,000,000 revolving management sufficiently to bring its net working
credit agreement with a group of banks. The firm capital and cash conversion cycle up to the
paid an annual commitment fee of 0.5% of the benchmark companies' level without affecting
unused balance of the loan commitment. On the either sales or the costs of goods sold. Soenen
used portion of the revolver, it paid 1.5% above finances its net working capital with a bank loan
prime for the funds actually borrowed on a at an 8% annual interest rate, and it uses a 365-
simple interest basis. The prime rate was 9% day year. If these changes had been made, by
during the year. If the firm borrowed $6,000,000 how much would the firm's pre-tax income have
immediately after the agreement was signed and increased?
repaid the loan at the end of one year, what was Original Benchmarks'
the total dollar annual cost of the revolver? Data Related CCC CCC
Sales $100,000
a) $612,750 Cost of goods sold $80,000
Inventory (ICP) $20,000 91.25 38.00
b) $645,000 Receivables (DSO) $16,000 58.40 20.00
Payables (PDP) $5,000 22.81 30.00
c) $677,250 126.84 28.00

d) $711,113 a) $1,901
b) $2,092
e) $746,668 c) c. $2,301
d) $2,531
b
$9,000,000 e) $2,784
Total commitment
ANSWER: a
 RATIONALE:
75.00% 75.00%
Original Benchmarks' Benchmarks'
Data Related CCC CCC Levels 30.00 days 30.00 days
Sales $100,000 2 × ICP
Cost of goods sold $80,000 $7,500,000 $7,500,000
Inventory = ICP(COGS/365) = $20,000 91.25 days 36.50 days 31.50 days
38.00 days $8,329 73.00 days 68.00 days
Receivables = DSO(Sales/365) $2,000,000 $1,863,014
= $16,000 58.40 days 20.00 days $5,479
Payables = PDP(COGS/365) 79.50 days 69.50 days
= $5,000 22.81 days 30.00 days $6,575 10 days 69.50 days
New and old
NWC $31,000 126.84 days 28.00 days $7,233 RATIONALE:
Reduction in NWC = Old – Inventory
New = $23,767 Annual sales
Interest rate = 8% Days/year
Savings = Interest rate × COGS/Sales
Reduction in NWC = $1,901 Payables deferral period
(PDP)
o Margetis carries an average inventory of Rec. collection period (DSO)
$750,000. Its annual sales are $10 million, its cost =
of goods sold is 75% of annual sales, and its Cost of goods sold
receivables collection period is twice as long as Inv Conv. Period (ICP)
its inventory conversion period. The firm buys on DSO (calculated)
terms of net 30 days, and it pays on time. Its new
CFO wants to decrease the cash conversion cycle CHECK on
by 10 days, based on a 365-day year. He believes CCC
he can reduce the average inventory to $647,260
with no effect on sales. By how much must the Receivables (A/R)
firm also reduce its accounts receivable to meet CCC = DSO + ICP − PDP =
its goal in the reduction of its cash conversion Decrease in CCC
cycle? New CCC
Reduction in A/R = Orig. A/R − New A/R =
a) $123,630 $136,986

b) $130,137 o Suppose the credit terms offered to your

firm by its suppliers are 2/10, net 30 Your firm is
c) $136,986 not taking discounts, but is paying after 25 days
instead of waiting until Day 30. You point out that
d) $143,836 the nominal cost of not taking the discount and
paying on Day 30 is approximately 37%. But since
e) $151,027 your firm is neither taking discounts nor paying
ANSWER: c on the due date, what is
the effectiveannualpercentagecost (not the
Original New nominal cost) of its costly trade credit, using a
$750,000 $647,260 365-day year?
$10,000,000 $10,000,000
365 365 a) 60.3%
 b) 63.5% o Gonzales Company currently uses
maximum trade credit by not taking discounts on
c) 66.7% its The standard industry credit terms offered by
all its suppliers are 2/10, net 30 days, and the
d) 70.0% firm pays on time. The new CFO is considering
borrowing from its bank, using short-term notes
e) 73.5% payable, and then taking discounts. The firm
ANSWER: b wants to determine the effect of this policy
RATIONALE:Discount % 2% Net days 30 change on its net income. Its net purchases are
Discount days 10 Actual days to payment 25 $11,760 per day, using a 365-day year. The
EAR = [1 + Disc. %/(100 − Disc. %)][365/(Actual interest rate on the notes payable is 10%, and the
days − Disc. Period)] −1 = 63.49% tax rate is 40%. If the firm implements the plan,
what is the expected change in net income?
o Aggarwal buys on terms of 2/10, net 30,
and it always pays on the 30th day. The CFO a) $32,964
calculates that the average amount of costly
trade credit carried is $375,000. What is the b) $34,699
firm's average accounts payable balance?
Assume a 3 day year. c) $36,526

a) $458,160 d) $38,448

b) $482,273 e) $40,370

c) $507,656
2% Net days
d) $534,375 10 Actual days to payment
Net purchases/day $11,760 Days/year
e) $562,500
Annual interest rate 10.00% Tax rate

2% Net days ANSWER: RATIONALE:

10 Actual days to payment A/PNo disc. = Net purchases/day × Actual days to
$375,000 Years/day payment A/PNo disc. = $11,760 × 30 = $352,800
A/PDisc. = Net purchases/day × Discount days
A/PDisc. = $11,760 × 10 = $117,600
ANSWER: RATIONALE: Amount needed to be financed = A/PNo disc. −
Costly trade credit = Purchases per day × (Days A/PDisc.
credit is outstanding − Discount period) Amount needed to be financed = $352,800 −
$375,000 = Purchases per day × 20 Purchases per $117,600 = $235,200
day = $18,750 Additional interest cost = Amount needed to be
Free trade credit = Purchases per day × Discount financed × Annual interest rate Additional
period Free trade credit = $18,750 × 10 interest cost = $235,200 × 10.00% = $23,520
Free trade credit = $187,500 Gross purchases = (Net purchases/day × 365)/(1
Total trade credit = Costly trade credit + Free − Disc. %) Gross purchases = $11,760 ×
trade credit Costly trade credit + Free trade credit 365/98.00% = $4,380,000
Total trade credit = $375,000 + $187,500 Total Discounts lost = Gross purchases × Discount %
trade credit = $562,500 Discounts lost = $4,380,000 × 2.00% = $87,600
 Pre-tax savings = Discounts lost − Additional b) $ 90
interest c) $108
Pre-tax savings = $87,600 − $23,520 = $64,080 d) $130
After-tax savings = Pre-tax savings × (1 − T) After- e) $156
tax savings = $64,080 × 60.00% = $38,448
b EBIT $850
o Zarruk Construction's DSO is 50 days (on Gross capital expenditures $360
a 365-day basis), accounts receivable are $100 Depreciation $120
million, and its balance sheet shows inventory of Tax rate 40%
$125 What is the inventory turnover ratio?
Target increase in FCF $180
a) 4.73
ANSWER: b
b) 5.26 RATIONALE:
FCF = EBIT(1 − T) + Deprec. − Capex. − ΔNOWC
c) 5.84 $180 = $510 + $120 − $360 − ΔNOWC
$180 = $270 − ΔNOWC
d) 6.42 −$90 = −ΔNOWC ΔNOWC = $90
Exhibit 15.1
e) 7.07 Zorn Corporation is deciding whether to pursue a
ANSWER: c restricted or relaxed working capital investment
RATIONALE: DSO 50 Days/year 365 policy. The firm's annual sales are expected to
Receivables $100 Inventory $125 total $3,600,000, its fixed assets turnover ratio
Use DSO equation to find sales: DSO = equals 4.0, and its debt and common equity are
Receivables/(Sales/365) each 50% of total assets. EBIT is $150,000, the
Sales = 365(Receivables)/DSO = $730 interest rate on the firm's debt is 10%, and the
Inventory turnover = Sales/Inventory = 5.84 tax rate is 40%. If the company follows a
restricted policy, its total assets turnover will be
o Madura wants to increase its free cash 2.5. Under a relaxed policy its total assets
flow by $180 million during the coming year, turnover will be 2.2.
which should result in a higher EVA and stock
price. The CFO has made these projections for o Refer to Exhibit 1. If the firm adopts a
the upcoming year: restricted policy, how much lower would its
1. EBIT is projected to equal $850 million. interest expense be than under the relaxed
2. Gross capital expenditures are expected policy?
to total to $360 million versus
depreciation of $120 million, so its net a) $ 8,418
capital expenditures should total $240
million. b) $ 8,861
3. The tax rate is 40%.
4. There will be no changes in cash or c) $ 9,327
marketable securities, nor will there be
any changes in notes payable or accruals. d) $ 9,818
What increase in net operating working capital
(in millions of dollars) would enable the firm to e) $10,309
meet its target increase in FCF?
d
$3,600,000
Annual sales
a) $ 72
 Fixed assets turnover (FATO) 4.0 Interest 72,000
Debt/TA 50.00% EBT $ 78,000
Equity/TA 50.00% Taxes 31,200
EBIT $150,000 Net income $ 46,800
Interest rate 10.00% ROE = Net income/Equity
6.50%
Difference in ROEs = 1.50%
Tax rate 40.00%
Total assets turnover (restricted) 2.5 o Refer to Exhibit 1. Assume now that the
Total assets turnover (relaxed) 2.2 company believes that if it adopts a restricted
policy, its sales will fall by 15% and EBIT will fall
by 10%, but its total assets turnover, debt ratio,
ANSWER:d
interest rate, and tax rate will all remain the
RATIONALE:
same. In this situation, what's the difference
FA turnover = Sales/Net FA
between the projected ROEs under the restricted
4.0 = $3,600,000/Net FA Net FA = $900,000
and relaxed policies?
Restricted:
TATO = Sales/Total assets
2.5 = $3,600,000/Total assets Total assets = a) 2.24%
$1,440,000
Relaxed: b) 2.46%
TATO = Sales/Total assets
2.2 = $3,600,000/Total assets Total assets = c) 2.70%
$1,636,364
d) 2.98%
Restricted
Balance Sheets: Current assets
$ 540,000
e) 3.27%
Fixed assets 900,000 ANSWER: a
Total assets $1,440,000 RATIONALE: % Change in sales −15.00%
Debt $ 720,000 % Change in EBIT −10.00%
New sales $3,060,000
Equity 720,000
New EBIT $135,000
Total liab. & equity $1,440,000 Restricted:
Interest: $72,000 $81,818 TATO = Sales/Total assets
2.5 = $3,060,000/Total assets Total assets =
o Refer to Exhibit 1. What's the difference $1,224,000
in the projected ROEs under the restricted and Balance Sheet:
relaxed policies? a. 1.20% Total assets
Debt
a) 1.50%
Equity
b) 1.80% Total liab. & equity

c) 2.16% Income Statement: EBIT

Interest
d) 2.59%
ANSWER: b EBT
RATIONALE: Restricted Relaxed Taxes
EBIT $150,000 Net income
ROE = Net income/Equity = 7.24%
Difference in ROE = 2.24%