44GitmanPrinciplesofFinance,EleventhEdition

Chapter14
WorkingCapitalandCurrent
AssetsManagement
.1

Learning Goals

1.

Understandshorttermfinancialmanagement,networkingcapital,andtherelatedtradeoffbetween
profitabilityandrisk.

2.

Describethecashconversioncycle,itsfundingrequirements,andthekeystrategiesformanagingit.

3.

Discussinventorymanagement:differingviews,commontechniques,andinternationalconcerns.

4.

Explainthecreditselectionprocessandthequantitativeprocedureforevaluatingchangesincredit
standards.

5.

Reviewtheproceduresforquantitativelyconsideringcashdiscountchanges,otheraspectsofcredit
terms,andcreditmonitoring.

6.

Understandthemanagementofreceiptsanddisbursements,includingfloats,speedingcollections,
slowingpayments,cashconcentration,zerobalanceaccounts,andinvestinginmarketable
securities.

.2

True/False

1.

Afirmthatisunabletopayitsbillsastheycomedueistechnicallyinsolvent.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:1
Topic:BasicsofShortTermFinancialManagement

2.

Theshorttermfinancialmanagementisconcernedwithmanagementofthefirmscurrentassetsand
currentliabilities.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:1
Topic:BasicsofShortTermFinancialManagement

45GitmanPrinciplesofFinance,EleventhEdition

3.

Intheshorttermfinancialmanagement,thegoalistomanageeachofthefirmscurrentassetsand
currentliabilitiesinordertoachieveabalancebetweenprofitabilityandriskthatcontributestothe
firmsvalue.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:1
Topic:BasicsofShortTermFinancialManagement

4.

Workingcapitalrepresentstheportionofthefirmsinvestmentthatcirculatesfromoneformto
anotherinthelongtermconductofbusiness.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

5.

Ingeneral,themoreafirmscurrentassetscoveritsshorttermobligations,thebetterableitwillbe
topayitsbillsastheycomedue.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

6.

Themorepredictableitscashinflows,themorenetworkingcapitalafirmneeds.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

7.

Astheratioofcurrentassetstototalassetsincreases,thefirmsriskincreases.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:1
Topic:WorkingCapitalManagement

8.

Becausefirmsareunabletomatchcashinflowstooutflowswithcertainty,mostofthemneed
currentliabilitiesthatmorethancoveroutflowsforcurrentassets.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:1
Topic:WorkingCapitalManagement

9.

Toomuchinvestmentincurrentassetsreducesprofitability,whereastoolittleinvestmentincreases
theriskofnotbeingabletopaydebtsastheycomedue.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:1
Topic:TradeoffBetweenProfitabilityandRisk

Chapter14WorkingCapitalandCurrentAssetsManagement46

10.

Toolittlecurrentliabilityfinancingreducesprofitability,whereastoomuchofthisfinancing
increasestheriskofnotbeingabletopaydebtsastheycomedue.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:1
Topic:TradeoffBetweenProfitabilityandRisk

11.

Businessriskistheriskofbeingunabletomakethescheduledfixedpaymentsassociatedwithdebt,
leases,andpreferredstockfinancingastheycomedue.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:1
Topic:BusinessRisk

12.

Thecashinflowsthatis,theconversionofthecurrentassetstomoreliquidformsarerelatively
predictablebutthecashoutlaysforcurrentliabilitiesaredifficulttopredict.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:1
Topic:WorkingCapitalManagement

13.

Networkingcapitalcanbedefinedastheportionofthefirmscurrentassetsfinancedwithlong
termfunds.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:1
Topic:NetWorkingCapital

14.

Afirmissaidtobetechnicallyinsolventwhenitstotalassetsislessthanitstotalliabilitiesand
stockholdersequity.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:1
Topic:TechnicalInsolvency

15.

Anincreaseincurrentassetsincreasesnetworkingcapital,therebyreducingtheriskoftechnical
insolvency.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:1
Topic:TechnicalInsolvency

16.

Theeffectofadecreaseintheratioofcurrentassetstototalassetsandtheeffectofanincreasein
theratioofcurrentliabilitiestototalassetsareincreasesinthefirmsprofitsand,correspondingly,
itsrisk.
Answer: TRUE
LevelofDifficulty:4
LearningGoal:1
Topic:TradeoffBetweenProfitabilityandRisk

47GitmanPrinciplesofFinance,EleventhEdition

17.

Thecashconversioncycleistheamountoftimethatelapsesfromthepointwhenthefirminputs
materialsandlaborintotheproductionprocesstothepointwhencashiscollectedfromthesaleof
theresultingfinishedproduct.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:2
Topic:CashConversionCycle

18.

Thefirmsoperatingcycle(OC)issimplythesumoftheaverageageofinventory(AAI)andthe
averagepaymentperiod(APP).
Answer: FALSE
LevelofDifficulty:1
LearningGoal:2
Topic:OperatingCycle

19.

Thecashconversioncycleisthetotalnumberofdaysintheoperatingcyclelesstheaverage
paymentperiodforinputstoproduction.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:2
Topic:CashConversionCycle

20.

Anegativecashconversioncycle(CCC)meanstheaveragepaymentperiod(APP)exceedsthe
operatingcycle(OC).
Answer: TRUE
LevelofDifficulty:1
LearningGoal:2
Topic:CashConversionCycle

21.

Theoperatingcycleistherecurringtransitionofafirmsworkingcapitalfromcashtoinventories
andinventoriestoreceivablesandbacktocash.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:2
Topic:OperatingCycle

22.

Theaggressivefinancingstrategyisastrategybywhichthefirmfinancesitscurrentassetswith
shorttermfundsanditsfixedassetswithlongtermfunds.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:2
Topic:AggressiveFinancingStrategy

23.

Thepermanentfinancialneedofafirmisthefinancingrequirementsforthefirmsfixedassetsplus
thepermanentportionofthefirmscurrentassets.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:2
Topic:PermanentFundingRequirements

Chapter14WorkingCapitalandCurrentAssetsManagement48

24.

Theconservativefinancingstrategyisastrategybywhichthefirmfinancesatleastitsseasonal
requirements,andpossiblysomeofitspermanentrequirements,withshorttermfundsandthe
balanceofitspermanentrequirementswithlongtermfunds.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:2
Topic:ConservativeFinancingStrategy

25.

Theaggressivestrategyoperateswithminimumnetworkingcapitalsinceonlythepermanent
portionofthefirmscurrentassetsisbeingfinancedwithlongtermfunds.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:2
Topic:AggressiveFinancingStrategy

26.

Operatingcycleistheamountoftimethefirmscashistiedupbetweenpaymentforproduction
inputsandreceiptofpaymentfromthesaleoftheresultingfinishedproduct.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle

27.

Byefficientlymanagingthefirmsoperatingandcashconversioncycles,thefinancialmanagercan
maintainahighlevelofcashinvestmentandtherebycontributetowardmaximizationofsharevalue.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingandCashConversionCycles

28.

Theabilitytopurchaseproductioninputsoncreditallowsthefirmtopartially(ormaybeeven
totally)offsetthelengthoftimeresourcesaretiedupintheoperatingcycle.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle

29.

Thecashconversioncycleisthedifferencebetweenthenumberofdaysresourcesaretiedupinthe
operatingcycleandtheaveragenumberofdaysthefirmcandelaymakingpaymentonthe
productioninputspurchasedoncredit.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle

30.

Apositivecashconversioncyclemeansthatthefirmmustobtainfinancingtosupportthecash
conversioncycle.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle

49GitmanPrinciplesofFinance,EleventhEdition

31.

Whenafirmscashconversioncycleisnegative,thefirmshouldbenefitbybeingabletousethe
financingprovidedbythesuppliersofitsproductioninputstohelpsupportaspectsofthebusiness
otherthanjusttheoperatingcycle.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:2
Topic:CashConversionCycle

32.

Nonmanufacturingfirmsaremorelikelytohavepositivecashconversioncycles;theygenerally
carrysmaller,fastermovinginventoriesandoftenselltheirproductsforcash.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:2
Topic:CashConversionCycle

33.

Whenimplementingthecashmanagementstrategies,afirmshouldtakecaretoavoidhavingalarge
numberofinventorystockouts,toavoidlosingtheuseofitscashbycollectingitsaccounts
receivableusinghighpressurecollectiontechniques,andtoavoiddamagingthefirmscreditrating
byoverstretchingaccountspayable.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:2
Topic:CashConversionCycleManagementStrategies

34.

Oneaspectofriskassociatedwiththeaggressivestrategysmaximumuseofshorttermfinancingis
thefactthatchangingshortterminterestratescanresultinsignificantlyhigherborrowingcostsas
theshorttermdebtisrefinanced.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

35.

Theaggressivefinancingstrategyisastrategybywhichthefirmfinancesallprojectedfunds
requirementswithlongtermfundsandusesshorttermfinancingonlyforemergenciesor
unexpectedoutflows.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

36.

Theaggressivefinancingstrategyisriskyduetoitsminimumlevelofnetworkingcapital,high
dependencyonshorttermsourcesoffunds,andthechangingshortterminterest.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

Chapter14WorkingCapitalandCurrentAssetsManagement50

37.

Underconservativefinancingstrategy,shorttermfinancingisusedonlytofinanceanemergency,
anunexpectedoutflowoffunds,andthevariableportionofthefirmscurrentassets.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

38.

Theriskoftheconservativefinancingrequirementsislowbecauseofitshighlevelofnetworking
capital,andthefactthatthestrategydoesnotrequirethefirmtouseanyofitslimitedshortterm
borrowingcapacity.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

39.

Theconservativestrategyislessprofitablethantheaggressiveapproachbecauseitrequiresthefirm
topayinterestonunneededfunds.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

40.

TheABCsystemisaninventorymanagementtechniquefordeterminingtheoptimalorderquantity
foranitemofinventory.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:3
Topic:ABCInventorySystem

41.

Thereorderpointisthepointatwhichthefirmreceivesorders.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:3
Topic:InventoryReorderPoint

42.

Safetystocksareextrainventoriesthatcanbedrawndownwhenactualleadtimesand/orusagerates
aregreaterthanexpected.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:3
Topic:InventorySafetyStock

43.

IntheABCsystemofinventorymanagement,theredlinemethodorsystemcouldbeutilizedto
controlCitems.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:3
Topic:ABCInventorySystem

51GitmanPrinciplesofFinance,EleventhEdition

44.

InEOQmodel,theaverageinventoryisdefinedastheorderquantitydividedby2.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:3
Topic:EOQInventoryModel

45.

Theeconomicorderquantity(EOQ)istheorderquantitywhichminimizesthecarryingcostsper
unitperperiod.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel

46.

Intheeconomicorderquantitymodel,ifcarryingcostsincreasewhileallothercostsremain
unchanged,thenumberofordersplacedwouldbeexpectedtoincrease.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel

47.

IntheEOQmodel,thetotalcostisminimizedatthepointwheretheordercostsandcarryingcosts
areequal.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel

48.

Thereorderpointisaninventorymanagementsystemthatcomparesproductionneedstoavailable
inventorybalancesanddetermineswhenordersshouldbeplacedforvariousitemsonthefirmsbill
ofmaterials.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:3
Topic:InventoryReorderPoint

49.

Sinceitsobjectiveistominimizeinventoryinvestment,aJustinTime(JIT)systemusesno,orvery
little,safetystocks.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:3
Topic:JustInTimeInventoryManagementSystem

50.

Becausemanaginginventoryisjustlikemanaginganyotherinvestment,decisionsaboutthelevelof
inventoryshouldbeguidedbytheeffectofinventorylevelsonsales.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:3
Topic:BasicsofInventoryManagement

Chapter14WorkingCapitalandCurrentAssetsManagement52

51.

Afirmscreditpolicygenerallyincludesdeterminingcreditselection,creditterms,andcollection.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:4
Topic:CreditPolicyBasics

52.

Afirmscreditselectionistheprocessofdeterminingtheminimumrequirementsforextending
credittoacustomer.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:4
Topic:CreditSelectionStandards

53.

Creditanalystsusuallyanalyzeanapplicantscreditworthinessbyusingthedimensionsofcredit
suchascharacter,capacity,capital,collateral,andconditions.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:4
Topic:FiveCsofCredit

54.

Afirmscredittermsspecifytheminimumrequirementsforextendingcredittoacustomer.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:4
Topic:CreditSelectionStandards

55.

Thefirmscreditstandardsaretheminimumrequirementsforextendingcredittoacustomer.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:4
Topic:CreditSelectionStandards

56.

Theaverageinvestmentinaccountsreceivableisequaltothefirmstotalvariablecostofannual
salesdividedbyitsaveragecollectionperiod.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:4
Topic:InvestmentinAccountsReceivable

57.

IninternationaltradewhenaU.S.companysellsaproductinFrance,theU.S.companyexperiences
anexchangerategainifthefrancdepreciatesagainstthedollarbeforetheU.S.exportercollectson
itsaccountsreceivable.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:4
Topic:ManagingInternationalCredit

53GitmanPrinciplesofFinance,EleventhEdition

58.

Inanalyzinganapplicantscreditworthiness,thecreditmanagertypicallygivesprimaryattentionto
twoofthefiveCsofcreditcollateralandconditionsincetheyrepresentthemostbasic
requirementsforextendingcredittoanapplicant.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:4
Topic:FiveCsofCredit

59.

Oneofthekeyinputstothefinalcreditdecisionisthecreditanalystssubjectivejudgmentofa
firmscreditworthinesssinceitcanprovideabetterfeelofafirmsoperationthananyquantitative
figures.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:4
Topic:CreditSelectionStandards

60.

Thefirmscreditselectionproceduresmustbeestablishedonasoundeconomicbasisthatconsiders
thecostsofinvestigatingthecreditworthinessofacustomerandtheexpectedsizeofitscredit
purchases.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:4
Topic:CreditSelectionStandards

61.

Afirmscreditstandardisaprocedureforrankingofanapplicantsoverallcreditstrength,derived
asaweightedaverageofscoresonkeyfinancialandcreditcharacteristics.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:4
Topic:CreditSelectionStandards

62.

Ascreditstandardsarerelaxed,salesareexpectedtoincreaseandtheinvestmentinaccounts
receivableisexpectedtodecrease.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:4
Topic:InvestmentinAccountsReceivable

63.

Theturnoverofaccountsreceivablecanbecalculatedbydividingannualsalesbyaccounts
receivable.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:4
Topic:InvestmentinAccountsReceivable

64.

Increasingthelengthofthecreditperiodshouldincreasesales,butboththeinvestmentinaccounts
receivableandbaddebtexpensesarelikelytoincreaseaswell.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:4

Chapter14WorkingCapitalandCurrentAssetsManagement54

Topic:RelaxingCreditStandards

55GitmanPrinciplesofFinance,EleventhEdition

65.

Ifthefirmrelaxesitscreditstandards,thevolumeofaccountsreceivableincreasesandsodoesthe
firmscarryingcost.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:4
Topic:RelaxingCreditStandards

66.

Arelaxationofcreditstandardsisexpectedtoaffectprofitspositivelyduetolowercarryingcosts
whereastighteningcreditstandardswouldaffectprofitsnegativelyasaresultofhighercarrying
costs.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:4
Topic:RelaxingCreditStandards

67.

Theincreaseinbaddebtsassociatedwithtighteningcreditstandardsraisesbaddebtexpensesand
hasanegativeimpactonprofits.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:4
Topic:TighteningCreditStandards

68.

Thecostofmarginalinvestmentinaccountsreceivablecanbecalculatedbyfindingthedifference
betweentheaverageinvestmentinaccountsreceivablebeforeandaftertheintroductionofthe
changesincreditstandards.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:4
Topic:InvestmentinAccountsReceivable

69.

Thecostofmarginalbaddebtsisfoundbymultiplyingthefirmsopportunitycostbythedifference
betweenthelevelofbaddebtsbeforeandaftertherelaxationofcreditstandards.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:4
Topic:RelaxingCreditStandards

70.

Ifthelevelofbaddebtattributabletocreditpolicyisrelativelyconstant,increasingcollection
expenditurescanbeexpectedtoreducebaddebts.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:5
Topic:ChangingCreditStandards

71.

2/15net45translatesas2percentofthebalanceisduein15days;theremainingbalanceisduein
45days.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:5
Topic:UnderstandingCreditTerms

Chapter14WorkingCapitalandCurrentAssetsManagement56

72.

Ifthecashdiscountperiodisincreased,thefirmsinvestmentinaccountsreceivableduetonon
discounttakersnowpayingearlierisexpectedtodecrease.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingtheCashDiscountPeriod

73.

Ifthecashdiscountperiodisincreased,thefirmsinvestmentinaccountsreceivableduetodiscount
takersstillgettingcashdiscountsbutpayinglaterisexpectedtoincrease.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingtheCashDiscountPeriod

74.

Ifthefirmscreditperiodindecreased,thesalesvolumecanbeexpectedtoincrease,theinvestment
inaccountsreceivablecanbeexpectedtoincrease,andthebaddebtexpensescanbeexpectedto
increase.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:5
Topic:DecreasingtheCashDiscountPeriod

75.

Whenafirminitiatesorincreasesacashdiscount,theneteffectontheaccountsreceivable
investmentisdifficulttodeterminebecausethenondiscounttakerspayingearlierwillreducethe
accountsreceivableinvestment,whilethenewcustomeraccountswillincreasethisinvestment.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingtheCashDiscountPeriod

76.

Theneteffectofchangesinthecashdiscountperiodisquitedifficulttoanalyzebecausetheyare
directlyattributabletothethreeforcesaffectingthefirmsinvestmentinaccountsreceivable.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:ChangingtheCashDiscountPeriod

77.

Anincreaseinaccountsreceivableturnoverduetoanincreaseincollectioneffortswilldecreasethe
firmsmarginalinvestmentinaccountsreceivable.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingCollectionEfforts

78.

Adecreaseincollectioneffortswillresultinanincreaseinsalesvolume,anincreaseinthe
investmentinaccountsreceivable,anincreaseinbaddebtexpenses,andadecreaseincollection
expenditures.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5

57GitmanPrinciplesofFinance,EleventhEdition

Topic:DecreasingCollectionEfforts

Chapter14WorkingCapitalandCurrentAssetsManagement58

79.

Increasedcollectionexpendituresshouldreducetheinvestmentinaccountsreceivableandbaddebt
expenses,increasingprofits.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingCollectionEfforts

80.

Byincreasingcollectionexpenditures,thefirmcandecreasebaddebtlossesuptoapoint,beyond
whichbaddebtscannotbeeconomicallyreduced.Theseinescapablebaddebtsareattributedtothe
firmscreditpolicy.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingCollectionEfforts

81.

Processingfloatisthedelaybetweenthereceiptofacheckbythepayeeanditsdepositinthefirms
account.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:ProcessingFloat

82.

Mailfloatisthedelaybetweenthedepositofacheckbyapayeeandtheactualavailabilityofthe
funds.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:MailFloat

83.

Assumingthatthefirmhasdoneallitcantostimulatecustomerstopaypromptlyandtoselect
vendorsofferingthemostattractiveandflexiblecreditterms,itcanfurtherspeedcollectionsand
slowdisbursementsbytakingadvantageofthefloatexistinginthecollectionandpayment
systems.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:ManagingFloat

84.

Floatexistswhenapayeehasreceivedfundsinaspendableformbutthesefundshavenotbeen
withdrawnfromtheaccountofthepayer.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:ManagingFloat

85.

Collectionfloatisexperiencedbythepayerandisadelayinthereceiptoffunds.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:CollectionFloat

59GitmanPrinciplesofFinance,EleventhEdition

86.

Disbursementfloatisexperiencedbythepayeeandisadelayintheactualwithdrawaloffunds.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:DisbursementFloat

87.

Collectionfloatresultsfromthelapsebetweenthetimethatafirmdeductsapaymentfromits
checkingaccountledgerandthetimethatfundsareactuallywithdrawnfromitsaccounts.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:CollectionFloat

88.

Disbursementfloatresultsfromthedelaybetweenthetimethatapayerorcustomerdeductsa
paymentfromitscheckingaccountledger(disbursesit)andthetimethatthepayeeorvendor
actuallyreceivesthesefundsinaspendableform.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:DisbursementFloat

89.

Controlleddisbursinginvolvesthestrategicuseofmailingpointsandbankaccountstolengthen
mailfloatandclearingfloat,respectively.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:ControlledDisbursing

90.

Lockboxsystemisusedtoreducecollectionfloatbyshorteningallthreebasicfloatcomponents
(i.e.,mail,processing,andclearing).
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:LockboxSystem

91.

TheACH(automatedclearinghouse)debitsarepreauthorizedelectronicwithdrawalsfromthe
payersaccount.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:AutomatedClearingHouse

92.

Controlleddisbursingisamethodofconsciouslyanticipatingthemail,processing,andclearingtime
involvedwiththepaymentprocess.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:ControlledDisbursing

Chapter14WorkingCapitalandCurrentAssetsManagement60

93.

Federalagencyissuesarelowrisksecuritiesissuedbygovernmentagenciesbutnotguaranteedby
theU.S.Treasury.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:FederalAgencyIssues

94.

Eurodollardepositsaredepositsofcurrencythatarenotnativetothecountryinwhichthebankis
located.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:EurodollarDeposits

95.

Tobetrulymarketable,asecuritymusthavethreebasiccharacteristics:areadymarket,riskfree,
andsafetyofprincipal.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:MarketableSecurities

96.

Themarketforasecurityshouldhavebothbreadthanddepthinordertominimizetheamountof
timerequiredtoconvertitintocash.
Answer: TRUE
LevelofDifficulty:1
LearningGoal:6
Topic:MarketableSecurities

97.

SinceTreasurybillsareissuedinbearerform,theyareconsideredtobevirtuallyriskfree.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:TreasuryBills

98.

TheyieldsonTreasurybillsaregenerallyhigherthanthoseonanyothermarketablesecuritiesdue
totheirvirtuallyriskfreenature.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:TreasuryBills

99.

FederalagencyissuesareobligationsoftheU.S.Treasuryandarereadilyacceptedaslowrisk
securities.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:FederalAgencyIssues

61GitmanPrinciplesofFinance,EleventhEdition

100. Commercialpaperisashorttermfundondepositatcommercialbankshavingvariableyieldsbased
onsize,maturity,andprevailingmoneymarketconditions.
Answer: FALSE
LevelofDifficulty:1
LearningGoal:6
Topic:CommercialPaper
101. Cashmanagementtechniquesareaimedatminimizingthefirmsfinancingrequirementsbytaking
advantageofcertainimperfectionsinthecollectionandpaymentsystem.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:CashManagementTechniques
102. Theentireprocessresultingfromacheckissueandmailbythepayercompanytothepayee
company(i.e.,mailfloat,processingfloat,andclearingfloat)isdisbursementfloattothepayer
companyandiscollectionfloattothepayeecompany.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:ManagingFloat
103. Playingthefloatinvolvesthestrategicuseofmailingpointsandbankaccountstolengthenmail
floatandclearingfloat,respectively.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:6
Topic:ManagingFloat
104. WiththeACH(automatedclearinghouse)credits,disbursementfloatissacrificedbecauseACH
transactionsimmediatelydrawdownthecompanyspayrollaccountonpayday.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:AutomatedClearingHouse
105. Zerobalanceaccountsarecheckingaccountsinwhichazerobalanceismaintainedandthebank
automaticallycoversallcheckspresentedagainsttheaccounts.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:6
Topic:ZeroBalanceAccounts
106. Amajordecisionconfrontingthebusinessfirmwhenpurchasingmarketablesecuritiesinvolvesa
tradeoffbetweentheopportunitytoearnareturnonidlefundsduringtheholdingperiodandthe
brokeragecostsassociatedwiththepurchaseandsaleofmarketablesecurities.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:MarketableSecurities

Chapter14WorkingCapitalandCurrentAssetsManagement62

107. TreasurynotesareobligationsoftheU.S.Treasurythatareissuedweeklyonanauctionbasisand
havecommonmaturitiesof91and182days.Duetotheexistenceofastrongsecondarymarket,
thesenotesarequiteattractivemarketablesecurityinvestments.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:6
Topic:TreasuryNotes
108. MostfederalagencyissueshaveshortmaturitiesandofferslightlyhigheryieldsthanU.S.Treasury
issueshavingsimilarmaturities.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:FederalAgencyIssues
109. TheyieldsonnegotiablecertificatesofdepositaretypicallyabovethoseonU.S.Treasuryissuesand
comparabletotheyieldsoncommercialpaperwithsimilarmaturities.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:NegotiableCDs
110. Abankersacceptanceisalowrisksecuritybecauseatleasttwo,andsometimesthree,partiesmay
beliableforitspaymentatmaturity.
Answer: TRUE
LevelofDifficulty:2
LearningGoal:6
Topic:BankersAcceptances
111. Inexchangeforthetailormadematuritydateprovidedbytherepurchaseagreement,thebankor
securitydealerprovidesareturnslightlybelowthatobtainablethroughoutrightpurchaseofsimilar
marketablesecurities.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:6
Topic:RepurchaseAgreements
112. ThehigheryieldsonEurodollardepositscomparedwithnearlyallothermarketablesecurities,
governmentalornongovernmental,withsimilarmaturitiesareattributableto(1)thefactthatthe
depositorybanksaregenerallylesscloselyregulatedthanU.S.banksandarethereforemorerisky,
and(2)someforeignexchangeriskmaybepresent.
Answer: TRUE
LevelofDifficulty:4
LearningGoal:6
Topic:EurodollarDeposits

63GitmanPrinciplesofFinance,EleventhEdition

113. ApopularextensionofmaterialsrequirementplanningismanufacturingresourceplanningII,which
integratesdatafromnumerousareassuchasfinance,accounting,marketing,engineering,and
manufacturingusingasophisticatedcomputersystem.
Answer: TRUE
LevelofDifficulty:3
LearningGoal:3
Topic:ManufacturingResourcePlanning
114. ApopularextensionofmaterialsrequirementplanningisinventoryintegrationautomationII,which
integratesdatafromnumerousareassuchasfinance,accounting,marketing,engineering,and
manufacturingusingasophisticatedcomputersystem.
Answer: FALSE
LevelofDifficulty:3
LearningGoal:3
Topic:ManufacturingResourcePlanning
115. Anagingschedulebreaksdownaccountsreceivableintogroupsonthebasisofthefirstletterofthe
nameofthecompanythatowesontheaccount.
Answer: FALSE
LevelofDifficulty:2
LearningGoal:6
Topic:AccountsReceivableAgingSchedule

.3

Multiple Choice Questions

1.

Networkingcapitalisdefinedas
(a) aratiomeasureofliquiditybestusedincrosssectionalanalysis.
(b) theportionofthefirmsassetsfinancedwithshorttermfunds.
(c) currentliabilitiesminuscurrentassets.
(d) currentassetsminuscurrentliabilities.
Answer: D
LevelofDifficulty:1
LearningGoal:1
Topic:NetWorkingCapital

2.

Theportionofafirmscurrentassetsfinancedwithlongtermfundsmaybecalled
(a) workingcapital.
(b) accountsreceivable.
(c) networkingcapital.
(d) inventory.
Answer: C
LevelofDifficulty:1
LearningGoal:1
Topic:NetWorkingCapital

Chapter14WorkingCapitalandCurrentAssetsManagement64

3.

Inworkingcapitalmanagement,riskismeasuredbytheprobabilitythatafirmwillbecome
(a) liquid.
(b) technicallyinsolvent.
(c) unabletomeetlongtermobligations.
(d) lessprofitable.
Answer: B
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

4.

Theconversionofcurrentassetsfrominventorytoreceivablestocashprovidesthe_________of
cashusedtopaythecurrentliabilities,whichrepresentsa(n)_________ofcash.
(a) outflow;inflow
(b) use;source
(c) source;use
(d) inflow;outflow
Answer: C
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

5.

Thegoalofworkingcapitalmanagementisto
(a) balancecurrentassetsagainstcurrentliabilities.
(b) payoffshorttermdebts.
(c) achieveabalancebetweenriskandreturninordertomaximizethefirmsvalue.
(d) achieveabalancebetweenshorttermandlongtermassetssothattheyaddtotheachievement
ofthefirmsoverallgoals.
Answer: C
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

6.

Currentliabilitiescanbeviewedas
(a) debtsdueinoneyear.
(b) debtsdueinlessthanayear.
(c) sourcesofcashinflows.
(d) sourcesofcashoutflows.
Answer: D
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

65GitmanPrinciplesofFinance,EleventhEdition

7.

Themostdifficultsetofaccountstopredictare
(a) currentassets.
(b) currentliabilities.
(c) fixedassets.
(d) longtermdebt.
Answer: A
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

8.

Currentliabilitiesare
(a) easytoobtain.
(b) lowerincostthanlongtermliabilities.
(c) tiedtotheleveloffixedassets.
(d) afunctionofcollectionpolicy.
Answer: B
LevelofDifficulty:1
LearningGoal:1
Topic:WorkingCapitalManagement

9.

Ingeneral,themoreworkingcapitalafirmhas,
(a) thegreateritsrisk.
(b) theloweritsrisk.
(c) thelesslikelyarecreditorstolendtothefirm.
(d) theloweritsleveloflongtermfunds.
Answer: B
LevelofDifficulty:2
LearningGoal:1
Topic:WorkingCapitalManagement

10.

A(n)_________incurrentassets_________networkingcapital,thereby_________theriskof
technicalinsolvency.
(a) decrease;increases;increasing
(b) increase;decreases;increasing
(c) increase;increases;reducing
(d) decrease;decreases;reducing
Answer: C
LevelofDifficulty:3
LearningGoal:1
Topic:WorkingCapitalManagement

Chapter14WorkingCapitalandCurrentAssetsManagement66

11.

A(n)_________incurrentliabilities_________networkingcapital,thereby_________theriskof
technicalinsolvency.
(a) decrease;increases;increasing
(b) increase;decreases;increasing
(c) increase;increases;reducing
(d) decrease;decreases;reducing
Answer: B
LevelofDifficulty:3
LearningGoal:1
Topic:WorkingCapitalManagement

12.

Whenaportionofthefirmsfixedassetsarefinancedwithcurrentliabilities,thefirm
(a) haspositivenetworkingcapital.
(b) hasnegativenetworkingcapital.
(c) hasexcessiveamountsofcurrentassets.
(d) isinalowriskposition.
Answer: B
LevelofDifficulty:3
LearningGoal:1
Topic:WorkingCapitalManagement

13.

Thepurposeofmanagingcurrentassetsandcurrentliabilitiesisto
(a) achieveaslowalevelofcurrentassetsaspossible.
(b) achieveaslowalevelofcurrentliabilitiesaspossible.
(c) achieveabalancebetweenprofitabilityandriskthatcontributestothefirmsvalue.
(d) achieveashighalevelofcurrentliabilitiesaspossible.
Answer: C
LevelofDifficulty:3
LearningGoal:1
Topic:TradeoffbetweenProfitabilityandRisk

14.

Relativetocashflowsaffectingnetworkingcapital,allofthefollowingaretrueEXCEPT
(a) cashinflowsaregenerallymorepredictablethancashoutlays.
(b) cashoutlaysforcurrentliabilitiesarerelativelypredictable.
(c) themorepredictablethecashinflows,thelessnetworkingcapitalafirmneeds.
(d) becausemostfirmsareunabletomatchcashinflowstooutflowswithcertainty,currentassets
thatmorethancoveroutflowsforcurrentliabilitiesarenecessary.
Answer: A
LevelofDifficulty:3
LearningGoal:1
Topic:WorkingCapitalManagement

67GitmanPrinciplesofFinance,EleventhEdition

15.

Thefirmspermanentfinancingrequirementisfinancedwith_________intheaggressivefinancing
strategy.
(a) longtermsources
(b) shorttermsources
(c) retainedearnings
(d) accountspayable
Answer: A
LevelofDifficulty:1
LearningGoal:2
Topic:PermanentFundingRequirements

16.

Mostfirmsemploy_________financingstrategy.
(a) anaggressive
(b) aconservative
(c) atradeoff
(d) aseasonal
Answer: C
LevelofDifficulty:1
LearningGoal:2
Topic:TradeoffFinancingStrategy

17.

Thefirmsfinancingrequirementscanbeseparatedinto
(a) currentliabilitiesandlongtermfunds.
(b) currentassetsandfixedassets.
(c) currentliabilitiesandlongtermdebt.
(d) seasonalandpermanent.
Answer: D
LevelofDifficulty:1
LearningGoal:2
Topic:PermanentandSeasonalFundingRequirements

18.

Thebasicstrategiesfordeterminingtheappropriatefinancingmixare
(a) seasonalandpermanent.
(b) shorttermandlongterm.
(c) aggressiveandconservative.
(d) currentandfixed.
Answer: C
LevelofDifficulty:1
LearningGoal:2
Topic:AggressiveversusConservativeFinancingStrategy

Chapter14WorkingCapitalandCurrentAssetsManagement68

19.

Ifafirmusesanaggressivefinancingstrategy,
(a) itincreasesreturnandincreasesrisk.
(b) itincreasesreturnanddecreasesrisk.
(c) itdecreasesreturnandincreasesrisk.
(d) itdecreasesreturnanddecreasesrisk.
Answer: A
LevelofDifficulty:1
LearningGoal:2
Topic:AggressiveFinancingStrategy

20.

Onemajorriskafirmassumesinanaggressivefinancingstrategyis
(a) thepossibilitythatcollectionswillbeslowerthanexpected.
(b) thepossibilitythatlongtermfundsmaynotbeavailablewhenneeded.
(c) thepossibilitythatshorttermfundsmaynotbeavailablewhenneeded.
(d) thepossibilitythatitwillrunoutofcash.
Answer: C
LevelofDifficulty:1
LearningGoal:2
Topic:AggressiveFinancingStrategy

21.

The_________isthetimeperiodthatelapsesfromthepointwhenthefirmmakestheoutlayto
purchaserawmaterialsonaccounttothepointwhenpaymentismadetothesupplierofthegoods.
(a) cashconversioncycle
(b) averagepaymentperiod
(c) averageageofinventory
(d) averagecollectionperiod
Answer: B
LevelofDifficulty:1
LearningGoal:2
Topic:AveragePaymentPeriod

22.

Whenmanaginginventories,agoodstrategyistoincreaseinventoryturnoverbydoingthe
followingEXCEPT
(a) increaserawmaterialsturnover.
(b) shortentheproductioncycle.
(c) producelowcostshortcyclegoods.
(d) increasefinishedgoodsturnover.
Answer: C
LevelofDifficulty:1
LearningGoal:2
Topic:InventoryTurnover

69GitmanPrinciplesofFinance,EleventhEdition

23.

Thebasicstrategiesthatshouldbeemployedbythebusinessfirminmanagingcashincludeallof
thefollowingEXCEPT
(a) payingaccountspayableaslateaspossiblewithoutdamagingthefirmscreditrating.
(b) turningoverinventoryasquicklyaspossible,avoidingstockouts.
(c) operatinginafashionthatrequiresmaximumcash.
(d) collectingaccountsreceivableasquicklyaspossiblewithoutdamagingcustomerrapport.
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

24.

The_________ofafirmistheamountoftimethatelapsesfromthepointwhenthefirmmakesan
outlaytopurchaserawmaterialstothepointwhencashiscollectedfromthesaleofthefinished
good.
(a) cashturnover
(b) cashconversioncycle
(c) averageageofinventory
(d) averagecollectionperiod
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle

25.

The_________ofafirmistheamountoftimethatelapsesfromthepointwhenthefirminputs
materialandlaborintotheproductionprocesstothepointwhencashiscollectedfromthesaleof
thefinishedproductthatcontainstheseproductioninputs.
(a) cashconversioncycle
(b) averageageofinventory
(c) operatingcycle
(d) averagecollectionperiod
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle

26.

Afirmhasanaverageageofinventoryof90days,anaveragecollectionperiodof40days,andan
averagepaymentperiodof30days.Thefirmsoperatingcycleis_________days.
(a) 110
(b) 130
(c) 120
(d) 70
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle(Equation14.1)

Chapter14WorkingCapitalandCurrentAssetsManagement70

27.

Afirmhasanoperatingcycleof120days,anaveragecollectionperiodof40days,andanaverage
paymentperiodof30days.Thefirmsaverageageofinventoryis_________days.
(a) 80
(b) 50
(c) 90
(d) 70
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:AverageAgeofInventory(Equation14.1)

28.

Afirmhasacashconversioncycleof80days,anaveragecollectionperiodof25days,andan
averageageofinventoryof70days.Itsoperatingcycleis_________days.
(a) 95
(b) 105
(c) 60
(d) 130
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle(Equation14.1)

29.

Afirmhasanaverageageofinventoryof60days,anaveragecollectionperiodof45days,andan
averagepaymentperiodof30days.Thefirmscashconversioncycleis_________days.
(a) 15
(b) 45
(c) 75
(d) 135
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle(Equation14.2andEquation14.3)

30.

Afirmhasacashconversioncycleof120days,anaveragecollectionperiodof25days,andan
averagepaymentperiodof50days.Thefirmsaverageageofinventoryis_________days.
(a) 45
(b) 95
(c) 125
(d) 145
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:AverageAgeofInventory(Equation14.2andEquation14.3)

71GitmanPrinciplesofFinance,EleventhEdition

31.

Afirmpurchasedrawmaterialsonaccountandpaidforthemwithin30days.Therawmaterials
wereusedinmanufacturingafinishedgoodsoldonaccount100daysaftertherawmaterialswere
purchased.Thecustomerpaidforthefinishedgood60dayslater.Thefirmscashconversioncycle
is_________days.
(a) 10
(b) 70
(c) 130
(d) 190
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle(Equation14.2andEquation14.3)

32.

The_________isthetimeperiodthatelapsesfromthepointwhenthefirmusestherawmaterialsin
manufacturingafinishedgoodtothepointwhenthefinishedgoodissold.
(a) cashturnover
(b) cashconversioncycle
(c) averageageofinventory
(d) averagecollectionperiod
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:AverageAgeofInventory

33.

The_________isthetimeperiodthatelapsesfromthepointwhenthefirmsellsafinishedgoodon
accounttothepointwhenthereceivableiscollected.
(a) cashconversioncycle
(b) averagepaymentperiod
(c) averageageofinventory
(d) averagecollectionperiod
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:AverageCollectionPeriod

34.

Afirmhasanaverageageofinventoryof101days,anaveragecollectionperiodof49days,andan
averagepaymentperiodof60days.Thefirmscashconversioncycleis
(a) 150days.
(b) 90days.
(c) 112days.
(d) 8days.
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle(Equation14.2andEquation14.3)

Chapter14WorkingCapitalandCurrentAssetsManagement72

35.

Afirmcanreduceitscashconversioncycleby
(a) increasingtheaverageageofinventory.
(b) increasingtheaveragecollectionperiod.
(c) decreasingtheaveragepaymentperiod.
(d) increasingtheaveragepaymentperiod.
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

36.

Afirmwithacashconversioncycleof175dayscanstretchitsaveragepaymentperiodfrom
30daysto45days.Thiswillresultina/an
(a) decreaseof15daysinthecashconversioncycle.
(b) increaseof15daysinthecashconversioncycle.
(c) decreaseof30daysinthecashconversioncycle.
(d) increaseof30daysinthecashconversioncycle.
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle(Equation14.2andEquation14.3)

37.

Afirmhasanaverageageofinventoryof20days,anaveragecollectionperiodof30days,andan
averagepaymentperiodof60days.Thefirmscashconversioncycleis_________days.
(a) 70
(b) 50
(c) 10
(d) 110
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:CashConversionCycle(Equation14.2andEquation14.3)

38.

Anincreaseintheaveragecollectionperiodwillresultin_________intheoperatingcycle.
(a) anincrease
(b) adecrease
(c) anundeterminedchange
(d) nochange
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheOperatingCycle

73GitmanPrinciplesofFinance,EleventhEdition

39.

Anincreaseintheaveragepaymentperiodwillresultin_________intheoperatingcycle.
(a) anincrease
(b) adecrease
(c) anundeterminedchange
(d) nochange
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheOperatingCycle

40.

Adecreaseintheaverageageofinventorywillresultin_________inthecashconversioncycle.
(a) anincrease
(b) adecrease
(c) anundeterminedchange
(d) nochange
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

41.

Anincreaseintheaveragepaymentperiodwillresultin_________inthecashconversioncycle.
(a) anincrease
(b) adecrease
(c) anundeterminedchange
(d) nochange
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

42.

Afirmhasanaverageageofinventoryof60days,anaveragecollectionperiodof45days,andan
averagepaymentperiodof30days.Thefirmsoperatingcycleis_________days.
(a) 75
(b) 105
(c) 90
(d) 135
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle(Equation14.1)

Chapter14WorkingCapitalandCurrentAssetsManagement74

43.

Afirmhasanoperatingcycleof170days,anaveragepaymentperiodof50days,andanaverage
ageofinventoryof145days.Thefirmsaveragecollectionperiodis_________days.
(a) 25
(b) 75
(c) 95
(d) 120
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:AverageCollectionPeriod(Equation14.2andEquation14.3)

44.

Afirmhasacashconversioncycleof60daysandaveragecollectionperiodof40days.Thefirms
operatingcycleis_________days.
(a) 20
(b) 100
(c) 50
(d) Cannotbedetermined
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:OperatingCycle(Equation14.1,Equation14.2,andEquation14.3)

45.

Afirmhasanaverageageofinventoryof101days,anaveragecollectionperiodof49days,andan
averagepaymentperiodof60days.Thefirmsinventoryturnoveris_________.
(a) 3.2
(b) 4.0
(c) 2.5
(d) 3.6
Answer: D
LevelofDifficulty:2
LearningGoal:2
Topic:InventoryTurnover(Equation14.2andEquation14.3)

46.

Thegoalofafirmscashmanagementisto
(a) increasethecashconversioncycle.
(b) increasethepaymentperiod.
(c) minimizecashrequirement.
(d) maximizecashoutflows.
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

75GitmanPrinciplesofFinance,EleventhEdition

47.

Onewaytoimprovethecashconversioncycleisto
(a) speedupcollections.
(b) slowdowncreditapprovals.
(c) reduceinventoryturnover.
(d) borrowfunds.
Answer: A
LevelofDifficulty:2
LearningGoal:2
Topic:ManagingtheCashConversionCycle

48.

Ifafirmincreasesitscurrentassetsrelativetototalassets,
(a) itincreasesreturnandreducesrisk.
(b) itincreasesreturnandincreasesrisk.
(c) itreducesreturnandreducesrisk.
(d) itreducesreturnandincreasesrisk.
Answer: C
LevelofDifficulty:2
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

49.

Afirmwithhighlyunpredictablesalesrevenuewouldbestchoose_________financingstrategyto
minimizerisk.
(a) theaggressive
(b) theconservative
(c) thetradeoff
(d) aseasonal
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:ConservativeFinancingStrategy

50.

Certainfinancingplansaretermedconservativewhen
(a) shorttermfinancingisusedfrequently.
(b) workingcapitalisrelativelyhigh.
(c) workingcapitalisrelativelylow.
(d) riskisincreased.
Answer: B
LevelofDifficulty:2
LearningGoal:2
Topic:ConservativeFinancingStrategy

Chapter14WorkingCapitalandCurrentAssetsManagement76

51.

Anincreaseinthecurrentassettototalassetratiohastheeffectsof_________onprofitsand
_________onrisk.
(a) anincrease;anincrease
(b) anincrease;adecrease
(c) adecrease;adecrease
(d) adecrease;anincrease
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

52.

Adecreaseinthecurrentassettototalassetratiohastheeffectsof_________onprofitsand
_________onrisk.
(a) anincrease;anincrease
(b) anincrease;adecrease
(c) adecrease;adecrease
(d) adecrease;anincrease
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

53.

Anincreaseinthecurrentliabilitiestototalassetsratiohastheeffectsof_________onprofitsand
_________onrisk.
(a) anincrease;anincrease
(b) anincrease;adecrease
(c) adecrease;adecrease
(d) adecrease;anincrease
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

54.

Adecreaseinthecurrentliabilitiestototalassetsratiohastheeffectsof_________onprofitsand
_________onrisk.
(a) anincrease;anincrease
(b) anincrease;adecrease
(c) adecrease;adecrease
(d) adecrease;anincrease
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

77GitmanPrinciplesofFinance,EleventhEdition

55.

Theaggressivefinancingstrategyresultsinthefirmfinancingitsshorttermneedswith_________
fundsanditslongtermneedswith_________funds.
(a) longterm;shortterm
(b) shortterm;longterm
(c) permanent;seasonal
(d) seasonal;permanent
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

IrishAirServiceshasdeterminedseveralfactorsrelativetoitsassetandfinancingmix.
(a) Thefirmearns10percentannuallyonitscurrentassets.
(b) Thefirmearns20percentannuallyonitsfixedassets.
(c) Thefirmpays13percentannuallyoncurrentliabilities.
(d) Thefirmpays17percentannuallyonlongtermfunds.
(e) Thefirmsmonthlycurrent,fixedandtotalassetrequirementsforthepreviousyeararesummarizedin
thetablebelow:
Table14.1
Month
January
February
March
April
May
June
July
August
September
October
November
December
56.

Current
Assets
$45,000
40,000
50,000
55,000
60,000
75,000
75,000
75,000
60,000
55,000
50,000
50,000

Fixed
Assets
$100,00
0
100,000
100,000
100,000
100,000
100,000
100,000
100,000
100,000
100,000
100,000
100,000

Total
Assets
$145,000
140,000
150,000
155,000
160,000
175,000
175,000
175,000
160,000
155,000
150,000
150,000

Thefirmsmonthlyaveragepermanentfundsrequirementis(SeeTable14.1)
(a) $100,000.
(b) $57,500.
(c) $140,000.
(d) $157,500.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:PermanentFundingRequirements

Chapter14WorkingCapitalandCurrentAssetsManagement78

57.

Thefirmsmonthlyaverageseasonalfundsrequirementis(SeeTable14.1)
(a) $17,500.
(b) $57,500.
(c) $40,000.
(d) $157,500.
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:SeasonalFundingRequirements

58.

Thefirmsannualfinancingcostsoftheaggressivefinancingstrategyare(SeeTable14.1)
(a) $21,175.
(b) $26,075.
(c) $24,475.
(d) $22,775.
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

59.

Thefirmsannualfinancingcostsofconservativefinancingstrategyare(SeeTable14.1)
(a) $22,775.
(b) $26,075.
(c) $29,750.
(d) $21,175.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

60.

Thefirmsannualprofitsontotalassetsforthepreviousyearwere(SeeTable14.1)
(a) $20,000.
(b) $21,500.
(c) $23,625.
(d) $25,750.
Answer: D
LevelofDifficulty:3
LearningGoal:2
Topic:ProfitsonTotalAssets

79GitmanPrinciplesofFinance,EleventhEdition

61.

IfthefirmscurrentliabilitiesinDecemberwere$40,000,thenetworkingcapitalwas(See
Table14.1)
(a) $140,000.
(b) $60,000.
(c) $10,000.
(d) $10,000.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:NetWorkingCapital
Table14.2
Assets
Currentassets
Fixedassets
Total

FlumPackages,Inc.
Liabilities&Equity
$10,000
Current
$5,000
Liabilities
20,000
Longtermdebt
12,000
Equity
13,000
$30,000
Total
$30,000

Thecompanyearns5percentoncurrentassetsand15percentonfixedassets.Thefirmscurrent
liabilitiescost7percenttomaintainandtheaverageannualcostoflongtermfundsis20percent.
62.

Thefirmsinitialratioofcurrenttototalassetis_________.(SeeTable14.2)
(a) 1:3
(b) 3:1
(c) 2:3
(d) 3:2
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:RatioofCurrenttoTotalAssets

63.

Thefirmsinitialnetworkingcapitalis(SeeTable14.2)
(a) $5,000.
(b) $13,000.
(c) $5,000.
(d) $10,000.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:NetWorkingCapital

Chapter14WorkingCapitalandCurrentAssetsManagement80

64.

Thefirmsinitialannualprofitsontotalassetsare(SeeTable14.2)
(a) $2,500.
(b) $3,500.
(c) $3,000.
(d) $4,500.
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ProfitsonTotalAssets

65.

Ifthefirmwastoshift$3,000ofcurrentassetstofixedassets,thefirmsnetworkingcapitalwould
_________,theannualprofitsontotalassetswould_________,andtheriskoftechnicalinsolvency
would_________,respectively.(SeeTable14.2)
(a) increase;decrease;increase
(b) decrease;increase;decrease
(c) increase;decrease;decrease
(d) decrease;increase;increase
Answer: D
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

66.

Ifthefirmwastoshift$7,000offixedassetstocurrentassets,thefirmsnetworkingcapitalwould
_________,theannualprofitsontotalassetswould_________,andtheriskofnotbeingableto
meetcurrentobligationswould_________,respectively.(SeeTable14.2)
(a) increase;decrease;increase
(b) decrease;increase;decrease
(c) increase;decrease;decrease
(d) decrease;increase;increase
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

67.

Ifthefirmwastoshift$2,000ofcurrentliabilitiestolongtermfunds,thefirmsnetworkingcapital
would_________,theannualcostoffinancingwould_________,andtheriskoftechnical
insolvencywould_________,respectively.(SeeTable14.2)
(a) decrease;decrease;increase
(b) increase;increase;decrease
(c) decrease;increase;decrease
(d) increase;decrease;decrease
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:TradeoffbetweenProfitabilityandRisk

81GitmanPrinciplesofFinance,EleventhEdition

68.

Thefirmwouldliketoincreaseitscurrentratio.Thisgoalwouldbeaccomplishedmostprofitably
by(SeeTable14.2)
(a) increasingcurrentliabilities.
(b) decreasingcurrentliabilities.
(c) increasingcurrentassets.
(d) decreasingcurrentassets.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingNetWorkingCapital

69.

Intheaggressivefinancingstrategy,afirmanticipatingalargeincreaseinsalesshouldfinancethe
increaseinworkingcapitalwith
(a) thesaleofcommonstock.
(b) thesaleofabondissue.
(c) alineofcredit.
(d) alongtermnotefromthebank.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

70.

Theaggressivefinancingstrategyisriskyintworespects:thefirmoperateswithalowlevelof
_________,andthefirmhasonlyalimitedamountof_________capacity.
(a) currentliabilities;shorttermborrowing
(b) networkingcapital;shorttermborrowing
(c) currentassets;longtermborrowing
(d) networkingcapital;longtermborrowing
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

71.

Theconservativefinancingstrategyresultsinfinancingallprojectedfundsrequirementswith
_________fundsanduseof_________fundsintheeventofanunexpectedcashoutflow.
(a) longterm;shortterm
(b) shortterm;longterm
(c) permanent;seasonal
(d) seasonal;permanent
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

Chapter14WorkingCapitalandCurrentAssetsManagement82

72.

Intheory,theconservativefinancingstrategyignores
(a) allcurrentliabilities.
(b) thespontaneousformsofshorttermfinancing.
(c) currentassets.
(d) thehighriskassociatedwiththisstrategy.
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

73.

Ineconomicconditionscharacterizedbyascarcityofshorttermfunds,afirmwouldbestchoosethe
_________financingstrategy.
(a) aggressive
(b) conservative
(c) permanent
(d) seasonal
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

74.

Ariskofthe_________financingstrategyisunpredictableinterestexpense.
(a) aggressive
(b) conservative
(c) permanent
(d) seasonal
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

75.

The_________financingstrategyrequiresthefirmtopayinterestonexcessfundsborrowedbutnot
neededthroughouttheentireyear.
(a) aggressive
(b) conservative
(c) permanent
(d) seasonal
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

83GitmanPrinciplesofFinance,EleventhEdition

76.

Theaggressivefinancingstrategyis_________methodwhiletheconservativefinancingstrategyis
_________method.
(a) ahighprofit,highrisk;alowprofit,lowrisk
(b) ahighprofit,lowrisk;alowprofit,highrisk
(c) alowprofit,highrisk;ahighprofit,lowrisk
(d) alowprofit,lowrisk;ahighprofit,highrisk
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveFinancingStrategy

77.

Ineconomicconditionscharacterizedbyshortterminterestrateswhichexceedlongterminterest
rates,thefinancingstrategywhichwouldmaximizeprofitsis_________strategy.
(a) theaggressive
(b) theconservative
(c) thetradeoff
(d) aseasonal
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ConservativeFinancingStrategy

78.

Anincreaseintheaveragepaymentperiodwillresultin_________intheoperatingcycleand
_________inthecashconversioncycle.
(a) anincrease;adecrease
(b) adecrease;adecrease
(c) adecrease;nochange
(d) nochange;adecrease
Answer: D
LevelofDifficulty:3
LearningGoal:2
Topic:AveragePaymentPeriod

79.

Thedifferencebetweenthenumberofdaysresourcesaretiedupintheoperatingcycleandthe
numberofdaysthefirmcanusespontaneousfinancingbeforepaymentismadeisthe
(a) cashconversioncycle.
(b) averagepaymentperiod.
(c) averagecollectionperiod.
(d) averageageofinventory.
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:CashConversionCycle

Chapter14WorkingCapitalandCurrentAssetsManagement84

80.

Adecreaseintheproductiontimetomanufactureafinishedgoodwillresultin_________inthe
cashconversioncycle.
(a) anincrease
(b) adecrease
(c) anundeterminedchange
(d) nochange
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle

81.

Afirmhasannualoperatingoutlaysof$1,800,000andacashconversioncycleof60days.Ifthe
firmcurrentlypays12percentfornegotiatedfinancingandreducesitscashconversioncycleto
50days,theannualsavingsis
(a) $50,000
(b) $200,000
(c) $6,000.
(d) $216,000.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle(Equation14.2andEquation14.3)

82.

Afirmhasacashconversioncycleof60days.Annualoutlaysare$12millionandthecostof
negotiatedfinancingis12percent.Ifthefirmreducesitsaverageageofinventoryby10days,the
annualsavingsis_________.
(a) $104,000
(b) $144,000
(c) $28,800
(d) $40,000
Answer: D
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle(Equation14.2andEquation14.3)

83.

Ideallyafirmwouldliketohavea
(a) negativeoperatingcycle.
(b) positiveoperatingcycle.
(c) negativecashconversioncycle.
(d) positivecashconversioncycle.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle

85GitmanPrinciplesofFinance,EleventhEdition

84.

Anegativecashconversioncycle
(a) meansthattheoperatingcycleexceedstheaveragepaymentperiod.
(b) meansthattheaveragepaymentperiodexceedstheoperatingcycle.
(c) indicatesthatthefirmisshorteningitsaveragepaymentperiodandlengtheningitsaverage
collectionperiod.
(d) iseasyforamanufacturingfirmtoattain.
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle

85.

Afirmmayhaveanegativecashconversioncycleifit
(a) carriesverylittleinventoryandsellsitsproductsoncredit.
(b) carrieshighinventoryandsellsitsproductsoncredit.
(c) carriesverylittleinventoryandsellsitsproductsforcash.
(d) carrieshighinventoryandsellsitsproductsforcash.
Answer: C
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle

86.

ImprovementstocashmanagementincludeallofthefollowingEXCEPTareductionin
(a) thecashturnover.
(b) thecashconversioncycle.
(c) theaverageageofinventory.
(d) theaveragecollectionperiod.
Answer: A
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle

87.

Afirmwithacashconversioncycleof175dayscanstretchitsaveragepaymentperiodfrom
30daysto45days.Thiswillresultina(n)_________inthecashconversioncycleof
_________days.
(a) increase;15
(b) decrease;15
(c) increase;45
(d) decrease;45
Answer: B
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheCashConversionCycle(Equation14.2andEquation14.3)

Chapter14WorkingCapitalandCurrentAssetsManagement86

88.

Afirmwithaverylowcurrentratioincomparisontotheindustrystandardcouldlowertheriskof
unavailableshorttermfundsbymovingtoward_________financingstrategy.
(a) theaggressive
(b) theconservative
(c) apermanent
(d) aseasonal
Answer: B
LevelofDifficulty:4
LearningGoal:2
Topic:ConservativeFinancingStrategy

89.

Afirmwhichusestheaggressivefinancingstrategyplanstopurchaseamajorfixedassetfinanced
withaloan.Themostlikelyconsequenceofthisactionis
(a) adecreaseinthecurrentratio.
(b) anincreaseinnetworkingcapital.
(c) adecreaseintheriskoftechnicalinsolvency.
(d) anincreaseinlongtermdebt.
Answer: D
LevelofDifficulty:4
LearningGoal:2
Topic:AggressiveFinancingStrategy

90.

Afirmwhichusestheaggressivefinancingstrategyplanstopurchaserawmaterialsinlarge
quantitiestotakepricediscounts.Thefirmwillfinancethepurchasewithaloan.Themostlikely
consequenceofthisactionis
(a) adecreaseinthecurrentratio.
(b) anincreaseinnetworkingcapital.
(c) anundeterminedchangeinthecurrentratio.
(d) anincreaseinlongtermdebt.
Answer: C
LevelofDifficulty:4
LearningGoal:2
Topic:AggressiveFinancingStrategy

91.

The_________inventorycontainsthebasiccomponentsoftheproductionprocess.
(a) rawmaterials
(b) workinprocess
(c) finishedgoods
(d) capitalgoods
Answer: A
LevelofDifficulty:1
LearningGoal:3
Topic:CompositionofInventory

87GitmanPrinciplesofFinance,EleventhEdition

92.

The_________inventoryconsistsofallitemscurrentlyintheproductionprocess.
(a) rawmaterials
(b) workinprocess
(c) finishedgoods
(d) capitalgoods
Answer: B
LevelofDifficulty:1
LearningGoal:3
Topic:CompositionofInventory

93.

The_________inventoryconsistsofitemsthathavebeenproducedbutnotyetsold.
(a) rawmaterials
(b) workinprocess
(c) finishedgoods
(d) capitalgoods
Answer: C
LevelofDifficulty:1
LearningGoal:3
Topic:CompositionofInventory

94.

ThethreebasictypesofinventoryareallofthefollowingEXCEPT
(a) rawmaterials
(b) workinprocess
(c) finishedgoods
(d) capitalgoods
Answer: D
LevelofDifficulty:1
LearningGoal:3
Topic:CompositionofInventory

95.

AllofthefollowingmanagerswouldliketohavelargeinventoriesEXCEPTthe_________
manager.
(a) financial
(b) marketing
(c) manufacturing
(d) purchasing
Answer: A
LevelofDifficulty:1
LearningGoal:3
Topic:ManagingInventory

Chapter14WorkingCapitalandCurrentAssetsManagement88

96.

The_________isatechniquethatdividesinventoryintothreegroups,accordingtodollar
investment.
(a) exponentialsmoothingtechnique
(b) ABCsystem
(c) EOQmodel
(d) LIFOmodel
Answer: B
LevelofDifficulty:1
LearningGoal:3
Topic:ABCInventorySystem

97.

IntheABCsystemofinventorymanagement,the_________methodorsystemcouldbeutilizedto
controlCitems.
(a) basiceconomicorderquantity
(b) materialsrequirementplanning
(c) redline
(d) justintime
Answer: C
LevelofDifficulty:1
LearningGoal:3
Topic:ABCInventorySystem

98.

IntheABCsystemofinventorymanagement,the_________methodorsystemisappropriatefor
monitoringBitems.
(a) basiceconomicorderquantity.
(b) materialsrequirementplanning
(c) redline
(d) justintime
Answer: A
LevelofDifficulty:1
LearningGoal:3
Topic:ABCInventorySystem

99.

The_________isaninventorytechniquethattakesintoaccountvariousoperatingandfinancial
coststodeterminetheorderquantityforaspecificinventoryitem.
(a) exponentialsmoothingtechnique
(b) ABCsystem
(c) EOQmodel
(d) LIFOmodel
Answer: C
LevelofDifficulty:1
LearningGoal:3
Topic:EOQInventoryModel

89GitmanPrinciplesofFinance,EleventhEdition

100. Acomputerizedinventorysystemthatsimulatesneededmaterialsrequirementsforthefinished
product,andthencomparesproductionneedstoavailableinventorybalancestodeterminewhen
ordersshouldbeplacedisthe
(a) basiceconomicorderquantitysystem.
(b) materialsrequirementplanningsystem.
(c) justintimesystem.
(d) redlinemethod.
Answer: B
LevelofDifficulty:1
LearningGoal:3
Topic:MaterialsRequirementPlanning
101. Thephilosophyofthe_________isthatthefirmwouldhaveonlyworkinprocessinventory.
(a) basiceconomicorderquantitysystem
(b) materialsrequirementplanningsystem
(c) justintimesystem
(d) redlinemethod
Answer: C
LevelofDifficulty:1
LearningGoal:3
Topic:JustintimeInventorySystem
102. ThecostsassociatedwithinventorycanbedividedintothefollowinggroupsEXCEPT
(a) ordercosts.
(b) marginalcosts.
(c) carryingcosts.
(d) totalcosts.
Answer: B
LevelofDifficulty:1
LearningGoal:3
Topic:TypesofInventoryCosts
103. Inventoryinsurancecostsareanexampleof_________costs.
(a) order
(b) marginal
(c) carrying
(d) total
Answer: C
LevelofDifficulty:1
LearningGoal:3
Topic:InventoryCarryingCosts

Chapter14WorkingCapitalandCurrentAssetsManagement90

104. The_________usesno,orverylittle,safetystock.
(a) basiceconomicorderquantitysystem
(b) materialsrequirementplanningsystem
(c) justintimesystem
(d) redlinemethod
Answer: C
LevelofDifficulty:2
LearningGoal:3
Topic:JustintimeInventorySystem
105. IntheEOQmodel,_________costsarethevariablecostsperunitofholdinganitemofinventory
foraspecifiedtimeperiod.
(a) basic
(b) order
(c) carrying
(d) processing
Answer: C
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel
106. Theeconomicorderquantity(EOQ)istheorderquantitywhichminimizes
(a) theordercostperorder.
(b) thetotalinventorycosts.
(c) thecarryingcostsperunitperperiod.
(d) orderquantityinunits.
Answer: B
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel
107. IntheEOQmodel,ifcarryingcostsincreasewhileallothercostsremainunchanged,thenumberof
ordersplacedwouldbeexpectedto
(a) increase.
(b) decrease.
(c) remainunchanged.
(d) changewithoutregardtocarryingcosts.
Answer: A
LevelofDifficulty:2
LearningGoal:3
Topic:EOQInventoryModel

91GitmanPrinciplesofFinance,EleventhEdition

108. The_________isaninventorymanagementtechniquethatcomparesproductionneedstoavailable
inventorybalancesanddetermineswhenordersshouldbeplacedforvariousmaterialinputs.
(a) ABCsystem
(b) EOQmodel
(c) MRPsystem
(d) JITsystem
Answer: C
LevelofDifficulty:2
LearningGoal:3
Topic:MaterialsRequirementPlanning
109. The_________isaninventorymanagementtechniquethatminimizesinventoryinvestmentby
havingmaterialsinputsarriveatexactlythetimetheyareneededforproduction.
(a) ABCsystem
(b) EOQmodel
(c) MRPsystem
(d) JITsystem
Answer: D
LevelofDifficulty:2
LearningGoal:3
Topic:JustintimeInventorySystem
110. Thedispositionofthefinancialmanager,marketingmanager,andmanufacturingmanagertoward
inventorylevelsistokeepthem_________,_________,and_________,respectively.
(a) high;low;high
(b) low;high;low
(c) low;high;high
(d) high;low;low
Answer: C
LevelofDifficulty:3
LearningGoal:3
Topic:IssuesinInventoryManagement
111. Becausemanaginginventoryisjustlikemanaginganyotherinvestment,decisionsaboutthelevelof
inventoryshouldbeguidedby
(a) thevalueoftheinventory.
(b) theeffectofinventorylevelsonsales.
(c) acostbenefitanalysis.
(d) theeffectofinventorylevelsoncustomerrelations.
Answer: C
LevelofDifficulty:3
LearningGoal:3
Topic:IssuesinInventoryManagement

Chapter14WorkingCapitalandCurrentAssetsManagement92

BowringBallBearingshas10differentitemsinitsinventory.Theaveragenumberofunitsheldin
inventoryandtheaverageunitcostarelistedforeachitem.ThefirmusesanABCsystemofinventory
control
Table14.3

1
2
3
4
5
6
7
8
9
10

AverageNumber
ofUnits
5,000
2,000
100
500
650
10,000
5,100
3,100
20
1,150

Average
UnitCost
$0.05
1.50
8.50
45.00
3.50
100.00
0.25
5.00
0.75
2.00

112. InventoryitemsthatbelongintheAcategoryinclude(SeeTable14.3)
(a) Items4and6.
(b) Items1,6,and7.
(c) Items3and9.
(d) Items1and7.
Answer: A
LevelofDifficulty:3
LearningGoal:3
Topic:ABCInventorySystem
113. InventoryitemsthatbelongintheCcategoryinclude(SeeTable14.3)
(a) Items4and6.
(b) Items1,6,and7.
(c) Items1,3,and9.
(d) Items1and7.
Answer: C
LevelofDifficulty:3
LearningGoal:3
Topic:ABCInventorySystem
114. IntheEOQmodel,_________costsarethefixedclericalcostofwritingapurchaseorder,
processingthepaperwork,andverifyingtheinvoice.
(a) basic
(b) order
(c) carrying
(d) processing
Answer: B
LevelofDifficulty:3
LearningGoal:3
Topic:EOQInventoryModel

93GitmanPrinciplesofFinance,EleventhEdition

115. TheSteelWorks,Inc.isrequiredtocarryaminimumof40daysrawsteel,whichis250tons.It
takes15daysbetweenorderanddelivery.AtwhatlevelofsteelwouldSteelWorksreorder?
(a) 3,750tons
(b) 600tons
(c) 667tons
(d) 344tons
Answer: D
LevelofDifficulty:3
LearningGoal:3
Topic:InventoryReorderPoint(Equation14.8)
116. TheGeneralChemicalCompanyuses150,000gallonsofhydrochloricacidpermonth.Thecostof
carryingthechemicalininventoryis50centspergallonperyear,andthecostoforderingthe
chemicalis$150perorder.Thefirmusesthechemicalataconstantratethroughouttheyear.It
takes18daystoreceiveanorderonceitisplaced.Thereorderpointis
(a) 7,500gallons.
(b) 25,000gallons.
(c) 90,000gallons.
(d) 105,000gallons.
Answer: C
LevelofDifficulty:3
LearningGoal:3
Topic:InventoryReorderPoint(Equation14.8)
117. TheGeneralChemicalCompanyuses150,000gallonsofhydrochloricacidpermonth.Thecostof
carryingthechemicalininventoryis50centspergallonperyear,andthecostoforderingthe
chemicalis$150perorder.Thefirmusesthechemicalataconstantratethroughouttheyear.The
chemicalseconomicorderquantityis
(a) 32,863gallons.
(b) 11,619gallons.
(c) 9,487gallons.
(d) 1,900gallons.
Answer: A
LevelofDifficulty:4
LearningGoal:3
Topic:EOQInventoryModel(Equation14.7)
118. Afirmscredit_________providesguidelinesfordeterminingwhethertoextendcredittoa
customerandhowmuchcredittoextend.
(a) scoring
(b) terms
(c) policy
(d) standards
Answer: C
LevelofDifficulty:1
LearningGoal:4
Topic:CreditPolicy

Chapter14WorkingCapitalandCurrentAssetsManagement94

119. _________isaprocedureresultinginanumberreflectingtheapplicantscreditstrength,derivedas
aweightedaverageofthescoresobtainedonavarietyofkeyfinancialandcreditcharacteristics.
(a) Creditscoring
(b) Agingofreceivables
(c) Creditanalysis
(d) Theeconomicorderquantitymodel
Answer: A
LevelofDifficulty:1
LearningGoal:4
Topic:CreditScoring
120. Thefirmscredit_________definestheminimumcriteriafortheextensionofcredittoacustomer.
(a) scoring
(b) terms
(c) policy
(d) standards
Answer: D
LevelofDifficulty:1
LearningGoal:4
Topic:CreditStandards
121. _________areestablishedtoeliminatethenecessityofcheckingamajorcustomerscrediteach
timeamajorpurchaseismade.
(a) Creditstandards
(b) Creditpolicies
(c) Creditdepartments
(d) Linesofcredit
Answer: D
LevelofDifficulty:1
LearningGoal:4
Topic:LinesofCredit
122. _________istheprocedureforevaluatingmercantilecreditapplicants.
(a) Creditscoring
(b) Creditstandards
(c) Creditpolicy
(d) Creditanalysis
Answer: D
LevelofDifficulty:1
LearningGoal:4
Topic:CreditAnalysis

95GitmanPrinciplesofFinance,EleventhEdition

123. Afirms_________specifiestherepaymenttermsrequiredofallcreditcustomers.
(a) creditscoring
(b) creditterms
(c) creditpolicy
(d) creditstandards
Answer: B
LevelofDifficulty:1
LearningGoal:4
Topic:CreditTerms
124. WhichofthefollowingisNOToneofthefiveCsofcredit?
(a) character
(b) capital
(c) capability
(d) collateral
Answer: C
LevelofDifficulty:1
LearningGoal:4
Topic:FiveCsofCredit
125. Whenthecreditworthinessofacustomerisestablished,thefirmwillgrantthatcustomer
(a) acreditpolicy.
(b) alineofcredit.
(c) acreditrating.
(d) acreditposition.
Answer: B
LevelofDifficulty:1
LearningGoal:4
Topic:LineofCredit
126. Thecreditapplicants_________isitsabilitytorepaytherequestedcredit.
(a) character
(b) capacity
(c) capital
(d) collateral
Answer: B
LevelofDifficulty:1
LearningGoal:4
Topic:FiveCsofCredit

Chapter14WorkingCapitalandCurrentAssetsManagement96

127. Thecreditapplicants_________isthefinancialstrengthoftheapplicantasreflectedbyits
ownershipposition.
(a) character
(b) capacity
(c) capital
(d) collateral
Answer: C
LevelofDifficulty:1
LearningGoal:4
Topic:FiveCsofCredit
128. Thecreditapplicants_________istheamountofassetstheapplicanthasavailableforusein
securingthecredit.
(a) character
(b) capacity
(c) capital
(d) collateral
Answer: D
LevelofDifficulty:1
LearningGoal:4
Topic:FiveCsofCredit
129. ThemajorexternalsourcesofcreditinformationareallofthefollowingEXCEPT
(a) financialstatement.
(b) customers.
(c) Dun&Bradstreet.
(d) bankchecking.
Answer: B
LevelofDifficulty:1
LearningGoal:4
Topic:SourcesofCreditInformation
130. Acreditmanagertypicallygivesprimaryattentionto_________inextendingcredittoanapplicant.
(a) collateralandcapacity
(b) collateralandconditions
(c) characterandcapacity
(d) characterandcapital
Answer: C
LevelofDifficulty:2
LearningGoal:4
Topic:FiveCsofCredit

97GitmanPrinciplesofFinance,EleventhEdition

131. Whilecreditscoringprovidessoundcreditinformation,itisfrequentlyNOTusedinbusiness
because
(a) thescoringinformationisdifficulttoobtain.
(b) scoringstandardsaretoorigid.
(c) mostbusinesstransactionsinvolvemercantilecreditwhichcannotbescored.
(d) mercantilecreditdecisionsareeasilyquantifiable.
Answer: C
LevelofDifficulty:2
LearningGoal:4
Topic:CreditScoring
132. ThemostimportantofthefiveCsofcreditare
(a) collateralandcapacity.
(b) capitalandcollateral.
(c) characterandcapacity.
(d) characterandconditions.
Answer: C
LevelofDifficulty:2
LearningGoal:4
Topic:FiveCsofCredit
133. ThecreditapplicantscharacterincludesallofthefollowingEXCEPT
(a) moralcommitmenttopay.
(b) levelofliquidassets.
(c) pastpaymenthistory.
(d) pendinglegaljudgments.
Answer: B
LevelofDifficulty:2
LearningGoal:4
Topic:FiveCsofCredit
134. Ascreditstandardsarerelaxed,salesareexpectedto_________andtheinvestmentinaccounts
receivableisexpectedto_________.
(a) increase;increase
(b) increase;decrease
(c) decrease;decrease
(d) decrease;increase
Answer: A
LevelofDifficulty:2
LearningGoal:4
Topic:RelaxingCreditStandards

Chapter14WorkingCapitalandCurrentAssetsManagement98

135. Ascreditstandardsaretightened,salesareexpectedto_________andtheinvestmentinaccounts
receivableisexpectedto_________.
(a) increase;increase
(b) increase;decrease
(c) decrease;decrease
(d) decrease;increase
Answer: C
LevelofDifficulty:2
LearningGoal:4
Topic:TighteningCreditStandards
136. Themajorvariablesthatshouldbeconsideredwhenevaluatingproposedchangesincreditstandards
areallofthefollowingEXCEPT
(a) salesvolume.
(b) theinvestmentinaccountsreceivable.
(c) baddebtexpenses.
(d) levelofliquidassets.
Answer: D
LevelofDifficulty:2
LearningGoal:4
Topic:ManagingCreditStandards
137. Anapplicantscapacitytorepaytherequestedcreditisshownby
(a) financialstatementanalysis.
(b) bankaccountbalances.
(c) theapplicantspaymenthistory.
(d) thelevelofassetstheapplicantcanpledgetowardtheloan.
Answer: A
LevelofDifficulty:3
LearningGoal:4
Topic:FiveCsofCredit
138. Afirmisanalyzingarelaxationofcreditstandardsthatisexpectedtoincreasesales10percent.The
firmiscurrentlyselling400unitsatanaveragesalepriceperunitof$575,andthevariablecostper
unitis$400atthecurrentsalesvolume.Theaveragecostperunitis$425.Whatistheadditional
profitcontributionfromsalesifcreditstandardsarerelaxed?
(a) $23,000
(b) $16,000
(c) $6,000
(d) $7,000
Answer: D
LevelofDifficulty:3
LearningGoal:4
Topic:RelaxingCreditStandards

99GitmanPrinciplesofFinance,EleventhEdition

139. Whenshouldcreditstandardsberelaxed?
(a) Whensalesareexpectedtoincrease.
(b) Whencostsareexpectedtodecrease.
(c) Whencostsareexpectedtoincreasefasterthansalesifthestandardsarenotrelaxed.
(d) Whentheprofitcontributionfromsalesisgreaterthanthecostcontribution.
Answer: D
LevelofDifficulty:3
LearningGoal:4
Topic:RelaxingCreditStandards
Table14.4
CarensCanoesisconsideringrelaxingitscreditstandardstoencouragemoresales.Asaresult,
salesareexpectedtoincrease15percentfrom300canoesperyearto345canoesperyear.The
averagecollectionperiodisexpectedtoincreaseto40daysfrom30daysandbaddebtsare
expectedtodoublethecurrent1percentlevel.Thepricepercanoeis$850,thevariablecostper
canoeis$650andtheaveragecostperunitatthe300unitlevelis$700.Thefirmsrequiredreturn
oninvestmentis20percent.
140. Whatisthefirmsadditionalprofitcontributionfromsalesundertheproposedrelaxationofcredit
standards?(SeeTable14.4.)
(a) $2,250
(b) $6,750
(c) $9,000
(d) $69,000
Answer: C
LevelofDifficulty:4
LearningGoal:4
Topic:ProfitContributionfromSales
141. Whatisthecostofmarginalinvestmentsinaccountsreceivableundertheproposedplan?(See
Table14.4)
(a) $1,817
(b) $1,867
(c) $1,733
(d) $1,617
Answer: C
LevelofDifficulty:4
LearningGoal:4
Topic:CostofMarginalInvestmentinAccountsReceivable(Equation14.9)
142. Whatisthecostofmarginalbaddebtsundertheproposedplan?(SeeTable14.4)
(a) $383
(b) $765
(c) $3,315
(d) $5,100
Answer: C
LevelofDifficulty:4
LearningGoal:4

Chapter14WorkingCapitalandCurrentAssetsManagement100

Topic:CostofMarginalBadDebts

101GitmanPrinciplesofFinance,EleventhEdition

143. Whatisthenetresultofimplementingtheproposedplan?(SeeTable14.4)
(a) $3,952
(b) $3,868
(c) $2,083
(d) $2,083
Answer: A
LevelofDifficulty:4
LearningGoal:4
Topic:NetBenefit(Cost)ofRelaxingCreditStandards
144. Afirmisconsideringrelaxingcreditstandards,whichwillresultinannualsalesincreasingfrom
$1.5millionto$1.75million,thecostofannualsalesincreasingfrom$1,000,000to$1,125,000,and
theaveragecollectionperiodincreasingfrom40to55days.Thebaddebtlossisexpectedto
increasefrom1percentofsalesto1.5percentofsales.Thefirmsrequiredreturnoninvestmentsis
20percent.Thefirmscostofmarginalinvestmentinaccountsreceivableis
(a) $5,556.
(b) $9,943.
(c) $12,153.
(d) $152,778.
Answer: C
LevelofDifficulty:4
LearningGoal:4
Topic:CostofMarginalInvestmentinAccountsReceivable(Equation14.9)
145. Afirmisconsideringrelaxingcreditstandardswhichwillresultinanincreaseinannualsalesfrom
$3millionto$3.75million,adecreaseinthecostofannualsalesfrom$2,225,000to$2,000,000,an
increaseinadditionalprofitcontributionfromsalesof$10,000,andanincreaseintheaverage
collectionperiodof15days,from20to35days.Thebaddebtlossisexpectedtoincreasefrom
1percentto1.5percentofsales.Thefirmsrequiredreturnoninvestmentsis15percent.Thenet
resultofthefirmrelaxingitscreditstandardsis
(a) $10,000.
(b) $16,250.
(c) $26,875.
(d) $16,875.
Answer: D
LevelofDifficulty:4
LearningGoal:4
Topic:NetBenefit(Cost)ofRelaxingCreditStandards

Chapter14WorkingCapitalandCurrentAssetsManagement102

146. AfirmscredittermscoverallofthefollowingEXCEPT
(a) cashdiscount.
(b) cashdiscountperiod.
(c) creditstandards.
(d) creditperiod.
Answer: C
LevelofDifficulty:1
LearningGoal:5
Topic:CreditTerms
147. Company_________aretheproceduresfollowedtocollectaccountsreceivablewhentheycome
due.
(a) collectionpolicies
(b) creditscorings
(c) creditpolicies
(d) creditanalyses
Answer: A
LevelofDifficulty:1
LearningGoal:5
Topic:CreditCollectionPolicy
148. Themoststringentstepinthecollectionprocessis
(a) letters.
(b) personalvisits.
(c) collectionagencies.
(d) legalaction.
Answer: D
LevelofDifficulty:1
LearningGoal:5
Topic:CreditCollectionPolicy
149. Thefirststepinthecollectionofoverdueaccountsis
(a) aletter.
(b) contactingacollectionagency.
(c) legalactions.
(d) apersonalvisit.
Answer: A
LevelofDifficulty:1
LearningGoal:5
Topic:CreditCollectionPolicy

103GitmanPrinciplesofFinance,EleventhEdition

150. 2/15net45translatesas
(a) 15percentcashdiscountifpaidin2days,net45daycreditperiod.
(b) 45percentofaccountduein15days,paymentpriortoday15receivesa2percentdiscount.
(c) 2percentcashdiscountifpaidpriorto15days,ifcustomerdoesnottakeacashdiscount,the
balanceisduein45days.
(d) 2percentofthebalanceisduein15days,theremainingbalanceisduein45days.
Answer: C
LevelofDifficulty:2
LearningGoal:5
Topic:CreditTerms
151. Atechniquethatprovidestheanalystwiththeinformationconcerningtheproportionofeachtypeof
accountthathasbeenoutstandingforaspecifiedperiodoftimeiscalled
(a) creditanalysis.
(b) creditscoring.
(c) agingofreceivables.
(d) theeconomicorderquantitymodel.
Answer: C
LevelofDifficulty:2
LearningGoal:5
Topic:AgingofAccountsReceivable
152. Whenafirminitiatesorincreasesacashdiscount,salesareexpectedto_________,theinvestment
inaccountsreceivableisexpectedto_________,thebaddebtexpenseisexpectedto_________,
andtheprofitperunitisexpectedto_________.
(a) decrease;increase;increase;increase
(b) decrease;decrease;increase;increase
(c) increase;increase;decrease;decrease
(d) increase;decrease;decrease;decrease
Answer: D
LevelofDifficulty:3
LearningGoal:5
Topic:InitiatingorIncreasingCashDiscounts
153. Whenafirmdecreasesorcancelsacashdiscount,salesareexpectedto_________,theinvestment
inaccountsreceivableisexpectedto_________,thebaddebtexpenseisexpectedto_________,
andtheprofitperunitisexpectedto_________.
(a) decrease;increase;increase;increase
(b) decrease;decrease;increase;increase
(c) increase;increase;decrease;decrease
(d) increase;decrease;decrease;decrease
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:CancelingorDecreasingCashDiscounts

Chapter14WorkingCapitalandCurrentAssetsManagement104

154. Ifthecashdiscountperiodisincreased,thefirmsinvestmentinaccountsreceivabledueto
nondiscounttakersnowpayingearlierisexpectedto
(a) increase.
(b) decrease.
(c) notchange.
(d) changeinanundetermineddirection.
Answer: B
LevelofDifficulty:3
LearningGoal:5
Topic:InitiatingorIncreasingCashDiscounts
155. Ifthecashdiscountperiodisincreased,thefirmsinvestmentinaccountsreceivableduetodiscount
takersstillgettingcashdiscountsbutpayinglaterisexpectedto
(a) increase.
(b) decrease.
(c) notchange.
(d) changeinanundetermineddirection.
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:InitiatingorIncreasingCashDiscounts
156. Ifthefirmscashdiscountperiodisdecreasedorcancelled,thesalesvolumecanbeexpectedto
_________,thebaddebtexpensescanbeexpectedto_________,andtheprofitperunitcanbe
expectedto_________.
(a) increase;decrease;decrease
(b) increase;increase;decrease
(c) decrease;increase;increase
(d) decrease;decrease;increase
Answer: C
LevelofDifficulty:3
LearningGoal:5
Topic:CancelingorDecreasingtheCashDiscountPeriod
157. Ifthefirmscashdiscountperiodisincreased,thesalesvolumecanbeexpectedto_________,the
baddebtexpensescanbeexpectedto_________,andtheprofitperunitcanbeexpectedto
_________.
(a) increase;decrease;decrease
(b) increase;increase;decrease
(c) decrease;increase;increase
(d) decrease;decrease;increase
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:InitiatingorIncreasingtheCashDiscountPeriod

105GitmanPrinciplesofFinance,EleventhEdition

158. Ifthefirmscreditperiodisincreased,thesalesvolumecanbeexpectedto_________,the
investmentinaccountsreceivablecanbeexpectedto_________,andthebaddebtexpensescanbe
expectedto_________.
(a) increase;decrease;decrease
(b) increase;increase;decrease
(c) increase;increase;increase
(d) decrease;decrease;decrease
Answer: C
LevelofDifficulty:3
LearningGoal:5
Topic:InitiatingorIncreasingtheCreditPeriod
159. Ifthefirmscreditperiodisdecreased,thesalesvolumecanbeexpectedto_________,the
investmentinaccountsreceivablecanbeexpectedto_________,andthebaddebtexpensescanbe
expectedto_________.
(a) increase;decrease;decrease
(b) increase;increase;decrease
(c) increase;increase;increase
(d) decrease;decrease;decrease
Answer: D
LevelofDifficulty:3
LearningGoal:5
Topic:CancelingorDecreasingtheCreditPeriod
AbreakdownofTeffan,Inc.soutstandingaccountsreceivabledatedJune30,2003onthebasisofthe
monthinwhichthecreditsalewasinitiallymadefollows.Thefirmextends30daycreditterms.
Table14.5
Month
ofCreditSale
June,2003
May,2003
April,2003
March,2003
February,2003orbefore
Total

Accounts
Receivable
$410,000
340,000
270,000
200,000
100,000
$1,320,000

160. Accountsreceivableover90daystotal(SeeTable14.5)
(a) $200,000.
(b) $470,000.
(c) $300,000.
(d) $100,000.
Answer: C
LevelofDifficulty:3
LearningGoal:5
Topic:AgingofAccountsReceivable

Chapter14WorkingCapitalandCurrentAssetsManagement106

161. Anevaluationofthefirmscollectioneffortsbasedontheagingschedulewouldsuggest(See
Table14.5)
(a) poorcreditmanagement.
(b) satisfactorycreditmanagement.
(c) superiorcreditmanagement.
(d) overzealouscollectionefforts.
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:AgingofAccountsReceivable
162. Anincreaseincollectioneffortswillresultin_________insalesvolume,_________inthe
investmentinaccountsreceivable,_________inbaddebtexpenses,and_________incollection
expenditures.
(a) anincrease;adecrease;anincrease;adecrease
(b) anincrease;adecrease;adecrease;anincrease
(c) anincrease;adecrease;anincrease;anincrease
(d) adecrease;adecrease;adecrease;anincrease
Answer: D
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingCollectionEfforts
163. Adecreaseincollectioneffortswillresultin_________insalesvolume,_________inthe
investmentinaccountsreceivable,_________inbaddebtexpenses,and_________incollection
expenditures.
(a) anincrease;anincrease;anincrease;adecrease
(b) anincrease;adecrease;anincrease;anincrease
(c) anincrease;adecrease;anincrease;adecrease
(d) adecrease;adecrease;adecrease;anincrease
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:DecreasingCollectionEfforts
164. Anincreaseinaccountsreceivableturnoverduetoanincreaseincollectioneffortswill
(a) decreasethefirmsmarginalinvestmentsinaccountsreceivable.
(b) increasethefirmsmarginalinvestmentsinaccountsreceivable.
(c) decreasethefirmscollectionexpense.
(d) increasethefirmsbaddebtexpense.
Answer: A
LevelofDifficulty:3
LearningGoal:5
Topic:IncreasingCollectionEfforts

107GitmanPrinciplesofFinance,EleventhEdition

Table14.6
DizzyAnimators,Inc.currentlymakesallsalesoncreditandoffersnocashdiscount.Thefirmis
consideringa3percentcashdiscountforpaymentwithin10days.Thefirmscurrentaverage
collectionperiodis90days,salesare400filmsperyear,sellingpriceis$25,000perfilm,variable
costperfilmis$18,750perfilm,andtheaveragecostperfilmis$21,000.Thefirmexpectsthat
thechangeincredittermswillresultinaminorincreaseinsalesof10filmsperyear,that75
percentofthesaleswilltakethediscount,andtheaveragecollectionperiodwilldropto30days.
Thefirmsbaddebtexpenseisexpectedtobecomenegligibleundertheproposedplan.Thebad
debtexpenseiscurrently0.5percentofsales.Thefirmsrequiredreturnonequalriskinvestments
is20percent.
165. Whatisthefirmsmarginalprofitcontributionfromsalesundertheproposedplanofinitiatingthe
cashdiscount?(SeeTable14.6)
(a) $22,500
(b) $40,000
(c) $62,500
(d) $100,000
Answer: C
LevelofDifficulty:4
LearningGoal:5
Topic:ProfitContributionfromSales
166. Whatisthemarginalinvestmentinaccountsreceivableundertheproposedplan?(SeeTable14.6)
(a) $1,234,375
(b) $1,382,500
(c) $1,567,300
(d) $1,841,570
Answer: A
LevelofDifficulty:4
LearningGoal:5
Topic:MarginalInvestmentinAccountsReceivable(Equation14.98)
167. Whatisthecostofmarginalinvestmentinaccountsreceivableundertheproposedplan?(See
Table14.6)
(a) $313,460
(b) $276,500
(c) $246,875
(d) $368,314
Answer: C
LevelofDifficulty:4
LearningGoal:5
Topic:CostofMarginalInvestmentinAccountsReceivable(Equation14.9)

Chapter14WorkingCapitalandCurrentAssetsManagement108

168. Whatarethesavingsofmarginalbaddebtsundertheproposedplan?(SeeTable14.6)
(a) $500,000
(b) $50,000
(c) $10,000
(d) $5,000
Answer: B
LevelofDifficulty:4
LearningGoal:5
Topic:CostofMarginalBadDebts
169. Whatisthecostofthemarginalcashdiscount?(SeeTable14.6)
(a) $768,750
(b) $300,000
(c) $307,500
(d) $230,625
Answer: D
LevelofDifficulty:4
LearningGoal:5
Topic:CostofMarginalCashDiscount
170. Whatisthenetresultofincreasingthecashdiscount?(SeeTable14.6)
(a)
(b)
(c)
(d)

$33,750
$33,750
$128,750
$58,750

Answer: C
LevelofDifficulty:4
LearningGoal:5
Topic:NetBenefit(Cost)ofIncreasingtheCashDiscount
171. Whenmanagingaccountspayable,agoodstrategytoemploythatwonthurtyourcreditrating
isto
(a) payearly.
(b) payaslateaspossible.
(c) neverpay.
(d) payontheduedate.
Answer: B
LevelofDifficulty:1
LearningGoal:6
Topic:ManagingAccountsPayable

109GitmanPrinciplesofFinance,EleventhEdition

172. Delayingthepaymentofaccountspayableinordertoimprovecashmanagementisknownas
(a) ruiningthefirmscreditrating.
(b) stretchingthepayables.
(c) reducingoptimalcashrequirements.
(d) float.
Answer: B
LevelofDifficulty:1
LearningGoal:6
Topic:ManagingAccountsPayable
173. Whenmanagingaccountsreceivable,agoodstrategytoemploywithoutlosingfuturesalesisto
(a) sendtheaccountstoacollectionagency.
(b) tightenthecreditterms.
(c) offercashdiscount.
(d) makefrequentpersonalvisitstothecustomer.
Answer: C
LevelofDifficulty:1
LearningGoal:6
Topic:ManagingAccountsReceivable
174. _________areshorttermmoneymarketinstrumentsthatcanbeeasilyconvertedintocash.
(a) Preferredstocks
(b) Treasurybonds
(c) Accountsreceivable
(d) Marketablesecurities
Answer: D
LevelofDifficulty:1
LearningGoal:6
Topic:MarketableSecurities
175. Thedepthofamarketisdeterminedby
(a) theabilitytoabsorbthepurchaseorsaleofalargenumberofsecurities.
(b) thenumberofparticipants.
(c) theabilitytoabsorbthepurchaseorsaleofalargedollaramountofsecurities.
(d) thesafetyofprincipal.
Answer: C
LevelofDifficulty:1
LearningGoal:6
Topic:BreadthandDepthoftheMarket

Chapter14WorkingCapitalandCurrentAssetsManagement110

176. _________areobligationsoftheU.S.Treasurywithcommonmaturitiesof91to182daysandthat
haveastrongsecondarymarket.
(a) Treasurynotes
(b) Treasurybills
(c) Federalagencyissues
(d) Bankersacceptances
Answer: B
LevelofDifficulty:1
LearningGoal:6
Topic:TreasuryBills
177. _________areobligationsoftheU.S.Treasurywithcommonmaturitiesofonetosevenyearsand
thataregenerallyissuedinminimumdenominationsof$5,000.
(a) Treasurynotes
(b) Treasurybills
(c) Federalagencyissues
(d) Bankersacceptances
Answer: A
LevelofDifficulty:1
LearningGoal:6
Topic:TreasuryNotes
178. _________arenotobligationsoftheU.S.Government,butmostpurchasersfeelthattheyare
implicitlyguaranteedbythefederalgovernment.
(a) Treasurynotes
(b) Treasurybills
(c) Federalagencyissues
(d) Bankersacceptances
Answer: C
LevelofDifficulty:1
LearningGoal:6
Topic:FederalAgencyIssues
179. AllofthefollowingsecuritiesaregovernmentissuesEXCEPT
(a) Treasurynotes.
(b) Treasurybills.
(c) Federalagencyissues.
(d) Eurodollardeposits.
Answer: D
LevelofDifficulty:1
LearningGoal:6
Topic:EurodollarDeposits

111GitmanPrinciplesofFinance,EleventhEdition

180. _________isashortterm,unsecuredpromissorynoteissuedbyacorporationwithaveryhigh
creditstanding.
(a) Anegotiablecertificateofdeposit
(b) Arepurchaseagreement
(c) Amoneymarketmutualfund
(d) Acommercialpaper
Answer: D
LevelofDifficulty:1
LearningGoal:6
Topic:CommercialPaper
181. _________arisefromashorttermcreditarrangementusedbybusinessestofinancetransactions
involvingfirmsinforeigncountriesorfirmswithunknowncreditcapacities.
(a) Negotiablecertificatesofdeposit
(b) Eurodollardeposits
(c) Bankersacceptances
(d) Moneymarketmutualfunds
Answer: C
LevelofDifficulty:1
LearningGoal:6
Topic:BankersAcceptances
182. _________arefundsdenominatedinU.S.dollarsanddepositedinbankslocatedoutsidetheUnited
States.
(a) Negotiablecertificatesofdeposit
(b) Eurodollardeposits
(c) Bankersacceptances
(d) Moneymarketmutualfunds
Answer: B
LevelofDifficulty:1
LearningGoal:6
Topic:EurodollarDeposits
183. A_________isaprofessionallymanagedportfolioofmarketablesecuritiesandissoldinfractional
parts.
(a) negotiablecertificateofdeposit
(b) repurchaseagreement
(c) moneymarketmutualfund
(d) commercialpaperissue
Answer: C
LevelofDifficulty:1
LearningGoal:6
Topic:MoneyMarketMutualFunds

Chapter14WorkingCapitalandCurrentAssetsManagement112

184. Thenongovernmentalissuestypicallyhaveslightlyhigheryieldsthangovernmentissueswith
similarmaturitiesduetotheslightly_________associatedwiththem.
(a) higherprofitability
(b) higherrisk
(c) lowerrisk
(d) strongersecondarymarket
Answer: B
LevelofDifficulty:1
LearningGoal:6
Topic:GovernmentalversusNongovernmentalMarketableSecurities
185. TheprincipalnongovernmentalmarketablesecuritiesareallofthefollowingEXCEPT
(a) agencyissues.
(b) Eurodollardeposits.
(c) moneymarketmutualfunds.
(d) negotiablecertificateofdeposit.
Answer: A
LevelofDifficulty:1
LearningGoal:6
Topic:NongovernmentalMarketableSecurities
186. Fundsondepositatcommercialbankshavingvariablematuritiesandyieldsbasedonsize,maturity,
andprevailingmoneymarketconditionsare
(a) negotiablecertificatesofdeposit.
(b) commercialpaper.
(c) savingsaccounts.
(d) moneymarketmutualfunds.
Answer: A
LevelofDifficulty:1
LearningGoal:6
Topic:NegotiableCertificatesofDeposit
187. _________referstofundsthathavebeendispatchedbyapayerbutarenotinaformthatcanbe
spentbythepayee.
(a) Thecashconversioncycle
(b) Float
(c) Adirectsend
(d) Lockboxes
Answer: B
LevelofDifficulty:2
LearningGoal:6
Topic:Float

113GitmanPrinciplesofFinance,EleventhEdition

188. _________floatresultsfromthedelaybetweenthetimewhenacustomerdeductsapaymentfrom
thecheckingaccountledgerandthetimewhenthevendoractuallyreceivesthefundsinaspendable
form.
(a) Mail
(b) Processing
(c) Collection
(d) Disbursement
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:CollectionFloat
189. _________floatresultsfromthelapsebetweenthetimewhenafirmdeductsapaymentfromits
checkingaccountledgerandthetimewhenfundsareactuallywithdrawnfromitsaccount.
(a) Mail
(b) Processing
(c) Collection
(d) Disbursement
Answer: D
LevelofDifficulty:2
LearningGoal:6
Topic:DisbursementFloat
190. ThebasiccomponentsofcollectionfloatincludeallofthefollowingEXCEPT_________float.
(a) mail
(b) processing
(c) clearing
(d) disbursement
Answer: D
LevelofDifficulty:2
LearningGoal:6
Topic:CollectionFloat
191. _________floatisthetimethatelapsesbetweenthedepositofacheckbythepayeeandtheactual
availabilityoffunds.Thiscomponentisattributabletothetimerequiredforachecktogothrough
thebankingsystem.
(a) Mail
(b) Processing
(c) Clearing
(d) Disbursement
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:ClearingFloat

Chapter14WorkingCapitalandCurrentAssetsManagement114

192. Acustomersendspaymenttoapostofficeboxwhichisemptiedbythefirmsbankdaily.Thebank
thenprocessesthepaymentsandnotifiesthefirmofthedayscollections.Thiscollectiontechnique
isknownas
(a) adirectsend.
(b) concentrationbanking.
(c) thelockboxsystem.
(d) controlleddisbursing.
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:LockboxSystem
193. _________floatisthedelaybetweenthereceiptofacheckandtheactualdepositofitintothe
firmsaccount.
(a) Disbursement
(b) Deposit
(c) Processing
(d) Clearing
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:ProcessingFloat
194. DisbursementfloathasallofthefollowingbasiccomponentsEXCEPT
(a) mail.
(b) processing.
(c) collection.
(d) clearing
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:DisbursementFloat
195. A_________isanunsignedcheckdrawnononeofthefirmsbankaccountsanddepositedintoits
accountatanotherbank.
(a) directsend
(b) wiretransfer
(c) depositorytransfercheck
(d) preauthorizedcheck
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:DepositoryTransferChecks

115GitmanPrinciplesofFinance,EleventhEdition

196. A_________isatelegraphiccommunicationthat,viabookkeepingentries,removesfundsfromthe
payersbankanddepositstheminanaccountofthepayeesbank.
(a) directsend
(b) wiretransfer
(c) depositorytransfercheck
(d) preauthorizedcheck
Answer: B
LevelofDifficulty:2
LearningGoal:6
Topic:WireTransfer
197. _________involvesthestrategicuseofmailingpointsandbankaccountstolengthenmailand
clearingfloats.
(a) Adirectsend
(b) Concentrationbanking
(c) Alockbox
(d) Controlleddisbursing
Answer: D
LevelofDifficulty:2
LearningGoal:6
Topic:ControlledDisbursing
198. _________isamethodofconsciouslyanticipatingthemail,processing,andclearingtimeinvolved
withthepaymentprocess.
(a) Controlleddisbursing
(b) Concentrationbanking
(c) Playingthefloat
(d) Anoverdraftsystem
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:ManagingtheFloat
199. A_________isnotaspecificsecuritybutanarrangementwherebyabankorsecuritydealersells
specificmarketablesecuritiestoafirmandagreestorepurchasethesecuritiesinthefuture.
(a) negotiablecertificateofdeposit
(b) repurchaseagreement
(c) moneymarketmutualfund
(d) commercialpaperissue
Answer: B
LevelofDifficulty:2
LearningGoal:6
Topic:RepurchaseAgreement

Chapter14WorkingCapitalandCurrentAssetsManagement116

200. Theyieldoncommercialpaperisgenerallyhigherthantheyieldon
(a) negotiableCDs.
(b) acorporatebond.
(c) commonstock.
(d) aTreasurybill.
Answer: D
LevelofDifficulty:2
LearningGoal:6
Topic:CommercialPaper
201. Eachofthefollowinginstrumentsdemonstratesthesafetyofprincipalcharacteristiccommonto
marketablesecuritiesEXCEPT
(a) Treasurybills.
(b) Treasurynotes.
(c) bankersacceptances.
(d) commonstock.
Answer: D
LevelofDifficulty:2
LearningGoal:6
Topic:MarketableSecurities
202. Theeaseofsalabilityofmarketablesecuritiesrefersto
(a) safetyofreturn.
(b) safetyofprincipal.
(c) safetyofmaturity.
(d) riskofpayments.
Answer: B
LevelofDifficulty:2
LearningGoal:6
Topic:MarketableSecurities
203. ShortterminstrumentsissuedbytheFederalHomeLoanBank,theFederalNationalMortgage
Association,andtheFederalLandBankareexamplesof
(a) Treasurynotes.
(b) Treasurybills.
(c) federalagencyissues.
(d) bankersacceptances.
Answer: C
LevelofDifficulty:2
LearningGoal:6
Topic:FederalAgencyIssues

117GitmanPrinciplesofFinance,EleventhEdition

204. Soundcashmanagementtechniqueswouldsupport
(a) minimizingcollectionfloat,maximizingdisbursementfloat,andminimizingthecash
conversioncycle.
(b) minimizingcollectionfloat,maximizingdisbursementfloat,andminimizingthecashturnover.
(c) maximizingcollectionfloat,minimizingdisbursementfloat,andminimizingoperatingcash.
(d) minimizingcollectionfloat,maximizingdisbursementfloat,andmaximizingoperatingcash.
Answer: A
LevelofDifficulty:3
LearningGoal:6
Topic:ManagingtheFloat
205. Afirmexpectstohavefundsof$150,000idlefor60days.Ifthefirmcouldpurchasemarketable
securitiesyielding10percentandpaybrokeragefeesof$1,500,thefirm
(a) shouldmaketheinvestmentsinceinterestearnedexceedsbrokeragefees.
(b) shouldnotmaketheinvestmentsincebrokeragefeesexceedinterestearned.
(c) shouldleavethe$150,000incash.
(d) shouldinvestthefundsformorethan60daysduetothefavorablerate.
Answer: A
LevelofDifficulty:3
LearningGoal:6
Topic:MarketableSecuritiesManagement
206. TheriskofaninvestmentinaEurodollardepositispartiallydueto
(a) thefactthatthecenteroftheEurodollarmarketisinLondon.
(b) thefactthatthemajorityofthesedepositsarenotintheformofU.S.dollars.
(c) thepresenceofsomeforeignexchangerisk.
(d) thefactthattheseinstrumentsonlypayinterestatmaturity.
Answer: C
LevelofDifficulty:3
LearningGoal:6
Topic:EurodollarDeposits
207. WhichofthefollowingistrueofaEurodollardeposit?
(a) Eurodollardepositstendtoprovideyieldsbelownearlyallothermarketablesecuritieswith
similarmaturitiesduetotheirlowrisk.
(b) Eurodollardepositsarenonnegotiableandpayinterestonlyatmaturity,hencetheyieldis
higherthanonothermarketablesecuritieswithsimilarmaturities.
(c) Eurodollardepositstendtoprovideyieldsabovenearlyallothermarketablesecuritieswith
similarmaturitiesduetothehigherrisk.
(d) Eurodollardepositstendtoprovidehigheryieldsabovenearlyallothermarketablesecurities
withsimilarmaturitiesduetotheabsenceofanactivesecondarymarket.
Answer: C
LevelofDifficulty:4
LearningGoal:6
Topic:EurodollarDeposits

Chapter14WorkingCapitalandCurrentAssetsManagement118

208. DepositorybanksholdingEurodollardepositsare
(a) generallymorecloselyregulatedthanU.S.banksandarethereforemorerisky.
(b) generallylesscloselyregulatedthanU.S.banksandarethereforemorerisky.
(c) generallymorecloselyregulatedthanU.S.banksandarethereforelessrisky.
(d) largelylocatedoutsideoftheEuropeancountriesandarethereforemorerisky.
Answer: B
LevelofDifficulty:4
LearningGoal:6
Topic:EurodollarDeposits
209. Afirmhasarrangedforalockboxsystemtoreducecollectiontimeofaccountsreceivable.Currently
thefirmhasanaveragecollectionperiodof43days,anaverageageofinventoryof50days,andan
averagepaymentperiodof10days.Thelockboxsystemwillreducetheaveragecollectionperiodby
3daysbyreducingprocessing,mail,andclearingfloat.Thefirmscashconversioncycle
_________.
(a) increasesby3days
(b) decreasesby3days
(c) willnotchange
(d) is93days
Answer: B
LevelofDifficulty:4
LearningGoal:6
Topic:LockboxSystem
210. Apopularextensionofmaterialsrequirementplanningthatintegratesdatafromnumerousareas
suchasaccounting,finance,engineering,andmanufacturingusingasophisticatedcomputersystem
iscalled
(a) computerizedmaterialsintegrationII.
(b) manufacturingresourceplanningII.
(c) inventoryallocationplanningII.
(d) noneoftheabove.
Answer: B
LevelofDifficulty:3
LearningGoal:3
Topic:LockboxSystem

119GitmanPrinciplesofFinance,EleventhEdition

.4

Essay Questions

1.

MinnyFishingProductsisanalyzingtheperformanceofitscashmanagement.Ontheaverage,the
firmholdsinventory65days,paysitssuppliersin35days,andcollectsitsreceivablesin15days.
Thefirmhasacurrentannualoutlayof$1,960,000onoperatingcycleinvestments.Minnycurrently
pays10percentforitsnegotiatedfinancing.(Assumea360dayyear.)
(a) Calculatethefirmscashconversioncycle.
(b) Calculatethefirmsoperatingcycle.
(c) Calculatethedailyexpenditureandthefirmsannualsavingsiftheoperatingcycleisreduced
by15days.
Answers:
(a) CCC65153545
(b) OC651580
(c) Dailyexpenditure$1,960,000/360$5,444.44
Annualsavings$5,444.44150.10$8,167
LevelofDifficulty:3
LearningGoal:2
Topic:ManagingtheOperatingandCashConversionCycles(Equation14.1,Equation14.2,
andEquation14.3)

2.

Afirmhasarrangedforalockboxsystemtoreducecollectiontimeofaccountsreceivable.Currently
thefirmhasanaveragecollectionperiodof43days,anaverageageofinventoryof50days,andan
averagepaymentperiodof10days.Thelockboxsystemwillreducetheaveragecollectionperiodby
threedaysbyreducingprocessing,mail,andclearingfloat.Thefirmhastotalannualoutlaysof
$15,000,000andcurrentlypays9percentforitsnegotiatedfinancing.
(a) Calculatethecashconversioncyclebeforeandafterthelockboxsystem.
(b) Calculatethesavingsinfinancingcostsfromthelockboxsystem.
Answers:
(a) CCCbeforelockbox43501083
CCCafterlockbox40501080
(b) $15,000,000/360$41,666.67perday30.09$11,250
LevelofDifficulty:3
LearningGoal:2
Topic:LockboxSystemandtheCashConversionCycle(Equation14.2andEquation14.3)

Chapter14WorkingCapitalandCurrentAssetsManagement120

3.

LigureJewelershasseasonalfinancingneedsthatvaryfrom$250,000to$2,725,000.The
permanentfinancingrequirementis$4,100,000.Checktheappropriateboxindicatingthebetter
strategyforeachofthefollowingevents.
Event
1.Duetohigh
inflation,short
terminterestrates
aremuchhigherthan
longtermrates.
2.Salesrevenueis
unpredictable.
3.Thefirmhasa
largeproportion
ofitsassetsin
fixedassets.
4.Theaverage
seasonalfinancing
needis$1,000,000.
5.Theaverage
seasonalfinancing
needis$2,000,000.

Aggressive
Financing
Strategy

Conservative
Financing
Strategy

Answer:
Event
1.Duetohigh
inflation,short
terminterestrates
aremuchhigherthan
longtermrates.
2.Salesrevenueis
unpredictable.
3.Thefirmhasa
largeproportion
ofitsassetsin
fixedassets.
4.Theaverage
seasonalfinancing
needis$1,000,000.
5.Theaverage
seasonalfinancing
needis$2,000,000.

Aggressive
FinancingStrategy

Conservative
Financing
Strategy
X

LevelofDifficulty:3
LearningGoal:2
Topic:AggressiveversusConservativeFinancingStrategy

121GitmanPrinciplesofFinance,EleventhEdition

Table14.7

4.

Month
January

Current
Assets
$125,000

February
March
April
May
June
July
August
September
October
November
December

130,000
135,000
150,000
150,000
125,000
115,000
120,000
115,000
100,000
110,000
115,000

AceBusinessForms
Fixed
Assets
$250,000
250,000
250,000
250,000
250,000
250,000
250,000
250,000
250,000
250,000
250,000
250,000

Total
Assets
$375,00
0
380,000
385,000
400,000
400,000
375,000
365,000
370,000
370,000
350,000
360,000
365,000

AceBusinessFormshascompiledseveralfactorsrelativetoitsfinancingmix.Thefirmpays
8percentonshorttermfundsand10percentonlongtermfunds.Thefirmsmonthlycurrent,fixed
andtotalassetrequirementsforthepreviousyeararesummarizedinTable14.7.
Determine:
(a) themonthlyaveragepermanentfundsrequirement
(b) themonthlyaverageseasonalfundsrequirement
(c) theannualfinancingcosts(aggressivestrategy)
(d) theannualfinancingcosts(conservativestrategy)
Answers:

(a) $350,000
(b)
Month

Total
Assets

January
$375,000
February
380,000
March
385,000
April
400,000
May
400,000
June
375,000
July
365,000
August
370,000
September
370,000
October
350,000
November
360,000
December
365,000
MonthlyAverage

Permanent
Requiremen
t
$350,000
350,000
350,000
350,000
350,000
350,000
350,000
350,000
350,000
350,000
350,000
350,000

Seasonal
Requireme
nt
$25,000
30,000
35,000
50,000
50,000
25,000
15,000
20,000
15,000
0
10,000
15,000
$24,167

Chapter14WorkingCapitalandCurrentAssetsManagement122

(c)
$350,000(0.10)
24,167(0.08)
Totalfinancingcost

$35,000

1,933

$36,933

(Aggressivestrategy)
(d) Totalfinancingcost(Conservativestrategy)$400,000(0.10)$40,000
LevelofDifficulty:4
LearningGoal:2
Topic:AggressiveversusConservativeFinancingStrategy
5.

AceBusinessFormspays8percentonshorttermfundsand10percentonlongtermfunds.
Determineitsannualfinancingcostsusingthetradeoffstrategydescribed:AceBusinessFormshas
seasonalfinancingrequirementsrangingfromzeroto$50,000permonth.Basedonthisrange,the
firmhasdecidedtofinance$25,000permonthoftheseasonalfundswithlongtermdebtandthe
restoftheseasonalfundswithshorttermdebt.Thepermanentfundsrequirementwillbefinanced
withlongtermfunds.(SeeTable14.7)
Answer: Tradeoffstrategyannualfinancingcosts:
($350,000$25,000)(0.10)
($5,417)(0.08)

$37,500
433
$37,933

LevelofDifficulty:4
LearningGoal:2
Topic:TradeoffFinancingStrategy
6.

StudioOne,adealerincontemporaryart,hasforecasteditsseasonalfinancingneedsforthenextsix
monthsasfollows:
Month
January
February
March
April
May
June

SeasonalRequirement
$1,450,000
1,895,000
2,000,000
1,575,000
1,342,000
1,562,000

(a) Thefirmprojectsshorttermfundswillcost11percentandlongtermfundswillcost13percent
annually.
(b) Thefirmspermanentfundsrequirementis$500,000.
Calculatefinancingcostsforthefirstsixmonthsusingtheaggressiveandconservativestrategies.

123GitmanPrinciplesofFinance,EleventhEdition

Answer: Averagemonthlyseasonalfundsrequirement:
$9,824,000/6$1,637,333
Aggressivestrategy:
$1,637,333(0.11/2)
500,000(0.13/2)

$
90,053

32,500

$122,553

Conservativestrategy:
$2,500,000(0.13/2)$162,500
LevelofDifficulty:4
LearningGoal:2
Topic:AggressiveversusConservativeFinancingStrategy
7.

TimsSonsCompanyisinterestedinmakingsuretheyhaveenoughmoneytofinancetheirassets.
ThecompanyscurrentassetsandfixedassetsforthemonthsofJanuarythroughDecemberare
giveninthefollowingtable.
Month
January
February
March
April
May
June
July
August
September
October
November
December

CurrentAssets
$60,000
58,000
55,000
47,000
40,000
41,000
40,000
37,000
38,000
33,000
40,000
50,000

FixedAssets
$70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000

TotalAssets
$130,000
128,000
125,000
117,000
110,000
111,000
110,000
107,000
108,000
103,000
110,000
120,000

(a) Findtheaveragemonthlyseasonalandpermanentfundsrequirement.
(b) Whatisthetotalcostoffinancingundertheaggressiveandconservativestrategies.Assume
shorttermfundscosts4.5percentandtheinterestrateforlongtermfundsis12percent.
(c) Findthenetworkingcapitalundertheaggressiveandconservativestrategies.

Chapter14WorkingCapitalandCurrentAssetsManagement124

Answers:
Month
January
February
March
April
May
June
July
August
September
October
November
December

Current
Assets
$60,000
58,000
55,000
47,000
40,000
41,000
40,000
37,000
38,000
33,000
40,000
50,000

Fixed
Assets
$70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000
70,000

Total
Assets
$130,000
128,000
125,000
117,000
110,000
111,000
110,000
107,000
108,000
103,000
110,000
120,000

Permanent
Requirement
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000
$103,000

Seasonal
Requirement
$27,000
25,000
22,000
14,000
7,000
8,000
7,000
4,000
5,000
0
7,000
17,000
$143,000

125GitmanPrinciplesofFinance,EleventhEdition

(a) Monthlypermanentrequirement$103,000
Averageseasonalrequirement143,000/12$11,916.67
(b) Aggressive:
Totalcosts11,916.670.045103,0000.12$12,896.25
Conservative:
Totalcosts103,0000.12$15,600
(c) NetWorkingCapital:
AggressiveStrategy:$33,000
ConservativeStrategy:$60,000
LevelofDifficulty:4
LearningGoal:2
Topic:AggressiveversusConservativeFinancingStrategy
8.

SansatripProductshastendifferentitemsinitsfinishedgoodsinventory.Theaveragenumberof
unitsheldininventoryandtheaverageunitcostarelistedforeachitem.ThefirmusesanABC
systemofinventorycontrol.
Item
1
2
3
4
5
6
7
8
9
10

AverageNumber
ofUnitsin
Inventory
3,000
500
4,000
50
10,000
340
1,500
460
2,500
390

AverageCost
PerUnit
$1.50
10.00
12.00
40.00
5.00
15.00
3.00
30.00
25.00
4.10

Chapter14WorkingCapitalandCurrentAssetsManagement126

(a) WhichitemsshouldbeconsideredtobeintheAcategoryofanABCsystemofinventory?
(b) WhichitemsshouldbeconsideredtobeintheBcategoryofanABCsystemofinventory?
Answers:
Item

AverageCost
PerUnit

1
2
3
4
5
6
7
8
9
10

$1.50
10.00
12.00
40.00
5.00
15.00
3.00
30.00
25.00
4.10

AverageNumber
ofUnitsin
Inventory
3,000
500
4,000
50
10,000
340
1,500
460
2,500
390
Total

Average
Investment
$4,500
5,000
48,000
2,000
50,000
5,100
4,500
13,800
62,500
1,599
$196,999

(a) Items3,5,and9shouldbeconsideredintheAcategory.
(b) Item10clearlybelongstotheCcategory.Alltherestoftheinventoryitemshave
aboutanequalinvestmentandmostlikelybelongintheBcategory.
LevelofDifficulty:3
LearningGoal:3
Topic:ABCInventoryManagementSystem
9.

Contex,Inc.uses800unitsofaproductperyearonacontinuousbasis.Theproducthascarrying
costsof$50perunitperyearandordercostsof$300perorder.Ittakes30daystoreceivea
shipmentafteranorderisplacedandthefirmrequiresasafetystockof5daysusageininventory.
(a) Calculatetheeconomicorderquantity(EOQ).
(b) Determinethereorderpoint.
Answers:
(a) EOQ (2 800 $300)/50 98units
(b) Reorderpoint[30days(800/360)][5(800/360)]66.711.1177.8178
units
LevelofDifficulty:3
LearningGoal:3
Topic:EOQInventoryModelandInventoryReorderPoint(Equation14.7andEquation14.8)

127GitmanPrinciplesofFinance,EleventhEdition

10.

SharonsAppleFarmuses12,600basketsayearforappleshipment.Determinetheoptimumorder
quantityofbasketsassumingtheordercostsperorderis$600anditcosts$2tocarryaunitof
basketininventoryperperiod.
Answer: EOQ (2 12, 600 $600)/2 2,750units
LevelofDifficulty:3
LearningGoal:3
Topic:EOQInventoryModel(Equation14.7)

11.

Sharonuses35basketseachdaytopackapplesforshipping.Ittakes5daystoreceiveashipmentof
basketsafteranorderisplacedandshewouldlikeasafetystockof3daysininventory.Atwhat
levelofinventoryshouldSharonplaceanorderforbaskets?
Answer: Reorderpoint535335280units
LevelofDifficulty:3
LearningGoal:3
Topic:InventoryReorderPoint(Equation14.8)

12.

Dataproducts,Inc.,uses2,400unitsofaproductperyearonacontinuousbasis.Theproduct
carryingcostsare$60peryearandorderingcostsare$250perorder.Ittakes20daystoreceivea
shipmentafteranorderisplacedandthefirmrequiresasafetystockof8daysofusageininventory.
(a) Calculatetheeconomicorderquantity(rounduptothenearestwholeunit).
(b) Calculatethetotalcostperyeartoorderandcarrythisitem.
(c) Theirsupplierhasnotifiedthecompanythatiftheyincreasetheirorderquantityby58units
theywillgivethecompanyadiscount.Calculatethedollardiscountthatthecompanywillhave
togiveDataproductstoresultinanetbenefittothecompany.
Answers:
(a) EOQ (2 2, 400 250)/60 142units
(b) Totalcost(2,400/142)($250)(142/2)($60)$8,485
(c) Totalcostatnewlevel(2,400/200)($250)(200/2)($60)$9,000
Theyearlydiscountwillhavetobeatleast$515($9,000$8,485)tomakethedecision
neutral;over$515toresultinanetbenefittothecompany.
LevelofDifficulty:4
LearningGoal:3
Topic:EOQInventoryModelandSafetyStock(Equation14.7)

Chapter14WorkingCapitalandCurrentAssetsManagement128

13.

NelliesFinery
CreditScoringPolicy
Financialand
CreditCharacteristics
Creditreferences
Education
Homeownership
Incomerange
Paymenthistory
Yearsonjob
Financialand
CreditCharacteristics
Creditreferences
Education
Homeownership
Incomerange
Paymenthistory
Yearsonjob

Predetermined
Weight
0.25
0.05
0.15
0.30
0.15
0.10
ApplicantA
90
80
70
50
75
80

ApplicantB
70
95
50
95
70
70

NelliesFineryusesthecreditscoringtechniquetoevaluateretailapplications.Thefinancialand
creditcharacteristicsconsideredandweightsindicatingtheirrelativeimportanceinthecredit
decisionareshownabove.Thefirmscreditstandardsaretoacceptallapplicantswithcreditscores
of85ormore,toextendlimitedcredittoapplicantswithscoresrangingfrom75to84,andtoreject
allapplicantsbelow75.Thefirmiscurrentlyprocessingtwoapplicants.Thescoresofeach
applicantoneachofthefinancialandcreditcharacteristicsaresummarizedabove.Wouldyou
recommendeitheroftheseapplicantsforcreditextension?
Answer: ApplicantAscreditscore71.25
ApplicantBscreditscore75.75
RejectApplicantAandacceptApplicantBonalimitedbasis.
LevelofDifficulty:3
LearningGoal:4
Topic:ManagingCreditStandards

129GitmanPrinciplesofFinance,EleventhEdition

14.

KrugGoldCoin,Inc.isconsideringshorteningitscreditperiodfrom30daysto20daysand
believes,asaresultofthischange,itsaveragecollectionperiodwilldecreasefrom36daysto30
days.Baddebtexpensesarealsoexpectedtodecreasefrom1.2percentto0.8percentofsales.The
firmiscurrentlyselling300,000unitsbutbelievesasaresultofthechange,saleswilldeclineto
275,000units.On300,000units,salesrevenueis$4,200,000,variablecoststotal$3,300,000,and
fixedcostsare$300,000.Thefirmhasarequiredreturnonsimilarriskinvestmentsof15percent.
Evaluatethisproposedchangeandmakearecommendationtothefirm.
Answer: 300,000275,00025,000unitsdeclineinsales
PriceP4,200,000/300,000$14
Variablecostperunitv3,300,000/300,000$11
Reductioninprofitcontributionfromdeclineinsales
(300,000275,000units)(1411)$75,000
CostofmarginalinvestmentinA/R:
TurnoverofA/Rwithproposedplan360/3012
Averageinvestmentwithproposedplan

(275,000)(11)
$252,083
12

TurnoverofA/Rwithpresentplan360/3610
Averageinvestmentwithproposedplan

(300,000)(11)
$330,000
10

MarginalinvestmentinA/R$77,917
ReductionincostofmarginalinvestmentinA/R77,917(0.15)$11,687
Reductioninmarginalbaddebts:
Baddebtswithproposedplan(0.012)(4,200,000)$50,400
Baddebtswithpresentplan(0.008)(275,000)(14)$30,800
Netlossfromimplementationofproposedplan$19,600
Donotrecommend.
LevelofDifficulty:4
LearningGoal:4
Topic:ManagingCreditStandards

$43,713

Chapter14WorkingCapitalandCurrentAssetsManagement130

15.

BrunswickAdAgencysaccountsreceivabletotaled$451,000onJanuary30,2003.Anaging
summaryofreceivablesatthisdatefollows:
EndofMonth
January,2003
December,2002
November,2002
October,2002
September,2002before
Total

Amount
$250,000
100,000
50,000
30,000
21,000
$451,000

Thefirmextends30daycredittermstoallitscreditcustomers.
(a) PrepareanagingscheduleforBrunswickAdAgency.
(b) Evaluatethefirmscollectionperformance.
Answers:

(a)
030days
$250,000
55%

3160
100,000
22%

AgingSchedule
6190
91120
50,000
30,000
11%
7%

121andAbove
21,000
5%

(b) 45percentofthefirmsreceivablesareoverdue(greaterthan30days).Improvement
isneededincollectionsorsomeotherareaofcreditpolicy(creditstandardsorcredit
terms).
LevelofDifficulty:3
LearningGoal:5
Topic:AccountsReceivableAgingSchedule
16.

LandrumDistributing,Inc.hascompletedananalysisofcheckclearingtimesoffivekeysuppliers.
Onaweeklybasis,thefirmhasa$50,000checkdisbursedtoeachofthesesuppliers,totaling
$250,000.Inexaminingthecheckclearingtimesofeachsupplier,thefirmrevealed:
NumberofBusinessDays
forChecktoClear
3
5
6
7
8

Supplier
1
2
3
4
5

Giventhisinformation,whatrecommendationwouldyougivethefirmwithrespecttopayingits
suppliersweekly?Explain.

131GitmanPrinciplesofFinance,EleventhEdition

Answer:
Deposit:

$50,000onday3tocoverSupplier1
$50,000onday5tocoverSupplier2
$50,000onday6tocoverSupplier3
$50,000onday7tocoverSupplier4
$50,000onday8tocoverSupplier5

Thefinancialmanagershouldmonitorclearingsbycallingthebankatthestartofthe
businessday.
LevelofDifficulty:3
LearningGoal:6
Topic:ManagingtheFloat
17.

DonsSonsCompanyhasbeenofferedbyitsbanktomanageitscashatacostof$35,000peryear.
Undertheproposedcashmanagement,thefirmcanreducethecashrequiredonhandby$180,000.
Sincethebankisalsodoingalotofrecordkeeping,thefirmsadministrativecostwoulddecrease
by$2,000permonth.Whatrecommendationwouldyougivethefirmwithrespecttotheproposed
cashmanagementassumingthefirmsopportunitycostis12percent?
Answers:
Additionalbenefitfromreducedrequiredcash
$180,0000.12
Reductioninadministrativecosts$2,00012
TotalBenefit
Less:Cost(Banksfee)
Additionalbenefit

$21,600
$24,000
$45,600
$35,000
$10,600

Sincebenefits($45,600)aregreaterthancosts($35,000),thefirmshouldacceptthe
proposedcashmanagement.
LevelofDifficulty:3
LearningGoal:6
Topic:OutsourcingCashManagementActivities

Chapter14WorkingCapitalandCurrentAssetsManagement132

18.

Matcheachmarketablesecuritywithitsdescription.
(a) Eurodollardeposit
(b) Bankersacceptance
(c) Federalagencyissue
(d) Commercialpaper
(e) Repurchaseagreement
(f) Treasurybill
(g) Moneymarketmutualfund
(h) Negotiablecertificateofdeposit
(i) Treasurynote
1. _____Ashortterm,unsecuredpromissorynoteissuedbyacorporation.
2. _____AnobligationoftheU.S.Treasurywithcommonmaturitiesof91to182days.
3. _____Aportfolioofmarketablesecurities.
4. _____Anarrangementwherebyabankorsecuritiesdealersellsspecificmarketablesecurities
toafirmandagreestopurchasetheminthefuture.
5. _____AnobligationoftheU.S.Treasurywithmutualmaturitiesofbetweenoneandseven
years.
6. _____Negotiableinstrumentevidencingthedepositofacertainnumberofdollarsina
commercialbank.
7. _____AninstrumentissuedbytheFederalNationalMortgageAssociation.
8. _____FundsdepositedinbankslocatedoutsidetheU.S.anddenominatedinU.S.dollars.
9. _____Shorttermcreditarrangementusedbybusinessestofinancetransactionswithforeign
countriesorfirmswithunknowncreditcapacities.
Answers:
1.(d)
4.(e)
7.(c)

2.(f)
5.(i)
8.(a)

3.(g)
6.(h)
9.(b)

LevelofDifficulty:3
LearningGoal:6
Topic:MarketableSecurities