Ch19 Full Test Bank Cash, Payables And Liquidity Management

Chapter 19 – Cash, payables and liquidity management

MULTIPLE CHOICE

1. The amount of time that it takes for a cheque to clear through the banking system is called the:

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

2. Funds that have been sent by the payer but are not yet usable by the payee are called:

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

3. The collection, concentration and disbursement of funds for a company is called:

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

4. Special post office boxes set up by a company to expedite the receipt and processing of its accounts receivables are called:

REF: 19.2 Collections NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

Use the following information to answer questions 5 to 9.

Bavarian Brew receives about 350 cheques a day with an average amount of $550. Currently, customers’ payments spend 3 days in the mail. Once a cheque is received, it takes about 2 days to process it and another 4 days to clear the banking system. The company’s opportunity cost is 10%. Assume a 365-day year.

5. What is Bavarian Brew’s collection float?

3 + 2 + 4 = 9

PTS: 1 DIF: E

REF: 19.1 Cash Management NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

6. What is Bavarian Brew’s availability float?

REF: 19.1 Cash Management NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

7. Bavarian Brew is contemplating implementing a collection system that would decrease the collection float by 3 days. What would be the annual benefit of that system?

Reduction in float value = 3(350)(550)(0.10) =  57 750

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

8. Bavarian Brew is contemplating implementing a lockbox system that would decrease the collection float by 1.5 days. What would be the most the company should be willing to pay on an annual basis for the system?

1.5(350)(550)(0.10) = 28 875

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

9. Bavarian Brew is contemplating implementing a lockbox system. If the system has an annual cost of $77 000, by how many days would the float have to be reduced for the company to implement the system?

x(350)(550)(0.10) = 77 000

x = 4

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

Use the following information to answer questions 10 to 12.

Bavarian Sausage needs to transfer $300 000 from its deposit account into its concentration account. The company could do it with an EDT for $1.50 or a wire transfer for $17. The wire transfer would result in the funds being deposited in the concentration account two days earlier. The company’s opportunity cost is 10%. Assume a 360-day year.

10. What is the benefit for Bavarian Sausage of using the wire transfer?

Marginal benefit = 300 000(0.10/180) = 166.67

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

11. What is the net benefit for Bavarian Sausage from using the wire transfer?

166.67 – 17 = 149.67

PTS: 1 DIF: E

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

12. What is the minimum transfer amount for which the transfer would be beneficial for Bavarian Sausage?

15.50/(0.1/180) = 27 900

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

13. Your supplier offers you trade terms of 3/10 net 30. What is the implicit interest that you pay on the trade credit if you do not take the discount?

r = (0.03/0.97)[365/(30 – 10)] = 0.5644

PTS: 1 DIF: M

REF: 19.3 Accounts Payable and Disbursements NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

14. You are contemplating purchasing a $1 000 000 181-day Treasury bill that is selling at a discount of 5.45%. What is the dollar discount on the Treasury bill?

(1 000 000)(0.0545)(181/360) = 27 401.39

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: understand shares and bonds

15. You are contemplating purchasing a $1 000 000 181-day Treasury bill that is selling at a discount of 5.45%. What is the purchase price of the Treasury bill?

Discount = (1 000 000)(0.0545)(181/360) = 27 401.39

Purchase price = 1 000 000 – 27 401.39 =  972 598.61

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: understand shares and bonds

16. Smith Enterprise has a one-year credit line of $5 000 000 with Second Bank. On average Smith uses half of the credit line. Second Bank charges a 0.67% commitment fee on the unused portion of the line and the interest rate is set at LIBOR +2%. Assuming that the LIBOR is currently at 4.3%, what is Smith’s effective borrowing rate?

[(0.063 × 2 500 000) + (0.0067 × (5 000 000 – 2 500 000)]/2 500 000 × (365/365) = 0.0697

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

Use the following information to answer questions 17 and 18.

Smith Enterprise has a one-year credit line of $5 000 000 with Second Bank. On average, Smith uses $3 250 000 of the credit line. Second Bank charges a 0.45% commitment fee on the unused portion of the line and the interest rate is set at LIBOR +1.5%. The bank also requires a 5% compensating balance.

17. What is the most that Smith can effectively borrow against the line without having to deposit additional funds with the bank?

5 000 000/(1 + 0.05) = 4 761 905

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

18. If Smith needs to borrow $3 250 000, what is the effective borrowing rate if the LIBOR equals 6.3%?

Loan out = 3 250 000/(1 – 0.05) = 3 421 053 (incl. compensating balance)

EBR = {(0.078 × 3 421 053) + [0.0045(5 000 000 – 3 421 053)]}/3 250 000 × 365/365

EBR = 0.0843

PTS: 1 DIF: H

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

Use the following information to answer questions 19 to 22.

Smith Enterprise has a one-year credit line of $5 000 000 with Second Bank. On average, Smith uses $3 250 000 of the credit line. Second Bank charges a 0.45% commitment fee on the unused portion of the line and the interest rate is set at LIBOR +1.5%. Assume that the LIBOR is 6.3%.

19. What is Smith’s effective borrowing rate?

EBR = {(0.078 × 3 250 000) + [(0.0045(5 000 000 – 3 250 000)]}/3 250 000 × 365/365 

EBR = 0.0804

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

20. If Smith had only borrowed $2 000 000 against the line, what would be its effective borrowing rate?

EBR = {(0.078 × 2 000 000) + [(0.0045(5 000 000 – 2 000 000)]}/2 000 000 × 365/365 

EBR = 0.0848

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

21. What is the change in Smith’s effective borrowing rate if it borrows $2 000 000 instead of $3 250 000?

At 2.50 million: 8.25%

At 3.25 million: 8.04%

Change = 8.25 – 8.04 = 0.21

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

22. What would be the effective borrowing rate if Smith exhausted its line of credit?

EBR = {(0.078 × 5 000 000) + [(0.0045(5 000 000 – 5 000 000)]}/5 000 000 × 365/365 

EBR = 0.078

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

23. Most money market mutual funds set their net asset value at a fixed ___________ per share.

REF: 19.4 Short-Term Investing and Borrowing NAT: Reflective thinking

LOC: acquire knowledge of financial markets and interest rates

24. The cash manager should seek to __________ disbursement float and to _________ collection float.

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

25. Which of the following has the greatest potential to be the longest?

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

26. In which situation would a lockbox system likely produce greater benefits?

REF: 19.2 Collections NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

27. Extending payment beyond the due date in order to reduce the cash conversion cycle:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

28. The purpose of a positive pay service is to:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

29. Which of these is the correct order of priority for selecting short-term investments?

REF: 19.4 Short-Term Investing and Borrowing NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

30. For which of the following would not taking the discount be the least costly?

REF: 19.3 Accounts Payable and Disbursements NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

31. Suppose your company can borrow at 10%. Which discount(s) should your company take?

REF: 19.3 Accounts Payable and Disbursements NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

32. Which of the following credit terms has the highest relevant cost?

REF: 19.3 Accounts Payable and Disbursements NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

33. Currently, a 91-day Treasury bill sells at a 2.5% discount. What is the price of a $1 million investment?

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

Use the following information to answer questions 34 to 37.

Coyote Valley Products has daily cash collections of $500 000. The cash management staff has determined the following: (1) customers’ payments are in the mail an average of 3 days; (2) processing after receipt averages 1 day; and (3) deposited funds are cleared on average in 2 days. Assume a 365-day year.

34. Refer to Coyote Valley Products. What is the company’s collection float (in days)?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

35. If Coyote Valley Products faces a 9% opportunity cost of funds, what is the value of reducing float by 2 days?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

36. If Coyote Valley Products faces an 8% opportunity cost of funds, what is the most it would pay to implement a lockbox system that reduces collection float by 2 days?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

37. Coyote Valley’s bank, Grand Lake National, proposes a lockbox collection and processing arrangement that will reduce collection float by 2 days. If the system will cost Coyote Valley $115 000 per year, what is the minimum opportunity cost of funds that would make the system beneficial?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

38. If Coyote Valley Products faces a 9% opportunity cost of funds, what would be the benefit of a lockbox system that reduced mail float by 1.5 days, eliminated processing float and reduced clearing float by 1 day?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

39. The primary role of the cash manager:

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

40. The time between receipt of the payment and its deposit into the company’s account is:

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

41. How could $100 million days of float be attained?

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

42. The Barrell Company is approached by a bank that offers to implement a lockbox system of receipts for the company. If the new system is implemented, it will reduce float by 5 days per year. If Barrell’s cost of capital is 12% and its annual sales are expected to be $10 00 000, then what is the maximum amount that Barrell is willing to pay for the lockbox system?

10 000 000 × (5/365) × 0.12 =  16 438.36

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

43. Your company is expected to have $15 000 000 in sales next year and its cost of capital is 12%. How many days of float will a lockbox system have to save you in order to pay for a system that will cost your company $1 973 per year?

1 973 = 15 000 000 × (Days/365) × 0.12

Days = 4

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

44. A preauthorised electronic withdrawal from the payer’s account is known as:

REF: 19.2 Collections NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

45. You need to decide whether your company should transfer funds from a deposit account to a transfer account via EDT that will cost $2 or via a wire transfer that will cost $20. It is a Friday so the wire transfer will save you 3 days of float. If your cost of capital is 8%, then how large must the transfer be in order to be indifferent between the wire and the EDT? Round to the nearest dollar.

Differential cost = $18

18 = Size × (4/365) × 0.09

Size = 18 250

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

46. The primary purpose of the accounts payable function:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

47. National Groceries chooses to have it local stores make payments on its own payables. National utilises a(n):

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

48. Near-cash assets in the form of short-term investments are often called:

REF: 19.4 Short-Term Investing and Borrowing NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

49. A supplier has offered you credit terms of 4/10 net 30. What is the implied rate of interest in the terms?

(0.04/0.96) × (365/15) = 0.7604

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

50. You are offered credit terms of 2/20 net 45. What is the implied rate of interest by the discount?

(0.02/0.98) × (365/25) = 0.2980

PTS: 1 DIF: M

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

51. Your cost of capital is 16% and you are offered credit terms of 1/10 net 60. Do you take the discount? Why?

(0.01/0.99) × (365/50) = 0.0737 < 0.16 ===> You do not take the discount.

PTS: 1 DIF: H

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

52. Your cost of capital is 8% and you are offered a discount of 1% for early payment, otherwise the entire amount is due in 60 days. How many days after purchase will cause you to be indifferent between taking the discount and not taking the discount?

0.08 = (0.01/0.99) × [365/(60 – Discount days)]

Discount days = 13.91 days

PTS: 1 DIF: H

REF: 19.4 Short-Term Investing and Borrowing NAT: Analytic skills

LOC: acquire knowledge of financial markets and interest rates

53. A bank service that provides early notification of cheques that will be presented against a company’s account on a given day is called:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

54. Which of the following statements is a detailed invoice that lists all cheques cleared, account charges, lockbox charges and electronic transactions?

REF: 19.1 Cash Management NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

55. Which of the following is not a benefit of using EIPP in the business-to-business market?

REF: 19.2 Collections NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

56. Which of the following is not an advantage of cash concentration?

REF: 19.2 Collections NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

57. You have a credit card with NewBank. Your outstanding balance on 10 December is $423 and your statement extends from 10 December through 10 January. Calculate the new balance as of 10 January after considering the finance charge for the month, which is a 1.5% monthly rate based on the average daily balance and the following purchases/payments:

41 742/31 = 1346.52 × 0.015 = 20.20 in interest charges

New balance = Old balance + Interest

New balance = 1328 + 20.20 = 1348.20

PTS: 1 DIF: H

REF: 19.3 Accounts Payable and Disbursements NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

58. A zero-balance account is designed to:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

59. Controlled disbursement is designed to:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

60. Integrated accounts payable:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

61. Purchasing (or procurement) cards are designed to:

REF: 19.3 Accounts Payable and Disbursements NAT: Reflective thinking

LOC: acquire knowledge of financial analysis and cash flows

62. Emma is evaluating a lockbox system that will reduce float by 4 days. Her company has annual sales of $52 million and an opportunity cost of 15%. If the lockbox system is adopted, what is the amount of funds released?

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

63. Emma is evaluating a lockbox system that will reduce float by 4 days. Her company has annual sales of $52 million and an opportunity cost of 15%. If the lockbox system is adopted, what is the value of funds released?

PTS: 1 DIF: M

REF: 19.2 Collections NAT: Analytic skills

LOC: acquire knowledge of financial analysis and cash flows

SHORT ANSWER

1. What is liquidity management?

PTS: 1 DIF: E

REF: 19 Cash, Payables and Liquidity Management

2. What is a lockbox system?

PTS: 1 DIF: E

REF: 19.2 Collections

3. What is the difference between a zero-balance account and a controlled disbursement account?

PTS: 1 DIF: E

REF: 19.3 Accounts Payable and Disbursements

4. List the four components of float.

PTS: 1 DIF: E

REF: 19.1 Cash Management

5. What is cash concentration?

PTS: 1 DIF: E

REF: 19.2 Collections

6. What is meant by the term availability float?

PTS: 1 DIF: E

REF: 19.1 Cash Management