Chapter 30 Exam Questions Working Capital Management

Principles of Corporate Finance, 13e (Brealey)

Chapter 30 Working Capital Management

1) Firms employ the following types of inventories:

A) raw material.

B) work in process.

C) finished goods.

D) All of these options are correct.

2) The costs of holding inventory include

A) carrying cost.

B) carrying cost and order cost.

C) insurance cost.

D) carrying cost, order cost, and insurance cost.

3) The economic order quantity (EOQ) is calculated using

A) Q = .

B) Q = .

C) Q = .

D) None of these options are correct.

4) The High-Rise Building Company uses 400,000 tons of stone per year. The carrying costs are $100/ton. The cost per order is $500. Calculate the economic order quantity per order.

A) 1,000 tons

B) 2,000 tons

C) 3,000 tons

D) 4,000 tons

5) The High-Rise Building Company uses 400,000 tons of stone per year. The carrying costs are $100/ton. The cost per order is $500. Calculate the optimal number of orders per year.

A) 400

B) 100

C) 200

D) 300

6) The High-Rise Building Company uses 400,000 tons of stone per year. The carrying costs are $100/ton. The cost per order is $500. Calculate the optimal annual order costs.

A) $200,000

B) $100,000

C) $50,000

D) $150,000

7) The High-Rise Building Company (HRBC) uses 400,000 tons of stone per year. The carrying costs are $100/ton. The cost per order is $500. Calculate the optimal carrying costs. (Assume a linear usage rate and that HRBC runs its inventory down close to zero as the replenishment order arrives.)

A) $200,000

B) $100,000

C) $75,000

D) $50,000

8) The High-Rise Building Company uses 400,000 tons of stone per year. The carrying costs are $100/ton. The cost per order is $500. Calculate the total costs of optimal inventory.

A) $200,000

B) $150,000

C) $100,000

D) $50,000

9) In the economic order quantity (EOQ) inventory model, the optimal order size is achieved when

A) carrying costs > order costs.

B) carrying costs < order costs.

C) carrying costs = order costs.

D) There is no optimal order size as a smaller size is always better.

10) When a firm grants credit to a customer, this gives rise to a(n)

I) accounts receivable

II) cash on delivery (COD)

III) cash before delivery (CBD)

A) I only.

B) II only.

C) III only.

D) II and III only.

11) Accounts receivable include

A) trade credit.

B) consumer credit.

C) inventories.

D) trade credit and consumer credit.

12) Which of the following transaction(s) involve(s) credit?

A) COD

B) COD and CBD

C) CBD

D) 2/30, net 60 and 2/10, EOM, net 60

13) If a firm grants credit with terms of 3/10, net 30, the customer

A) must pay a penalty of 3 percent when payment is made in more than 10 days after the sale.

B) must pay a penalty for 10 percent when payment is made in more than 3 days after the sale.

C) receives a discount of 3 percent when payment is made in less than 10 days after the sale.

D) receives a discount of 10 percent when payment is made in less than 3 days after the sale.

14) The net credit period for a company with terms of 3/10, net 60 is

A) 50 days.

B) 60 days.

C) 10 days.

D) 57 days.

15) Which of the following trade credit terms is not valid?

A) 3/10, net 50

B) 8/10, EOM, net 60

C) 2/10, net 30

D) All of these options are valid credit terms.

16) Suppose you purchase goods on terms of 1/10, net 30. Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A) 9.6 percent

B) 9.2 percent

C) 20.1 percent

D) 44.6 percent

17) Suppose you purchase goods on terms of 3/10, net 60. Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A) 32 percent

B) 25 percent

C) 91 percent

D) 28.2 percent

18) Suppose you purchase goods on terms of 2/10, net 50. Taking compounding into account, what annual rate of interest is implied by the cash discount? (Assume a year has 365 days.)

A) 2 percent

B) 20.2 percent

C) 10.2 percent

D) 18.6 percent

19) When credit is offered with only the invoice as a formal instrument of credit, the credit procedure is called an

A) invoice account.

B) open account.

C) unsecured account.

D) unsecured note.

20) A trade acceptance, when immediate payment is not required, is a(n)

A) sight draft.

B) time draft.

C) bill of lading.

D) open account.

21) Which of the following statements regarding "bankers' acceptances" is true?

I) Bankers' acceptances are used in overseas trading.

II) Bankers' acceptances are bought and sold on a discount basis.

III) Bankers' acceptances are guaranteed by the bank.

A) I only

B) II only

C) III only

D) I, II, and III

22) A commercial draft can be a

A) sight draft.

B) time draft.

C) overdraft.

D) sight draft and time draft.

23) Companies frequently use information from the following sources when conducting their credit analysis:

I) financial statement supplied by the customer;

II) payment history supplied by other firms;

III) payment history supplied by banks

A) I only

B) II only

C) II and III only

D) I, II, and III

24) A customer has ordered goods generating a present value of $800. The present value of production costs is $600. Under what conditions should you extend credit if there is no possibility of repeat orders?

A) If the probability of payment exceeds 0.67

B) If the probability of payment exceeds 0.80

C) If the probability of payment exceeds 0.75

D) If the probability of payment exceeds 0.90

25) A customer has ordered goods generating a present value of $2,000. The present value of production costs is $1,800. Under what conditions should you extend credit if there is no possibility of repeat orders?

A) If the probability of payment exceeds 0.67

B) If the probability of payment exceeds 0.75

C) If the probability of payment exceeds 0.80

D) If the probability of payment exceeds 0.90

26) A customer has ordered goods generating a present value of $1,200. The present value of production costs is $800. Under what conditions should you extend credit if there is no possibility of repeat orders?

A) If the probability of payment exceeds 0.67

B) If the probability of payment exceeds 0.75

C) If the probability of payment exceeds 0.80

D) If the probability of payment exceeds 0.90

27) Which of the following statements are true?

I) New companies must be prepared to incur more bad debts than established businesses as part of the cost of building up a good-customers list.

II) Generally, repeat orders warrant easier credit terms.

III) Companies with high profit margins need to be particularly careful about extending credit to high-risk customers.

A) I only

B) II only

C) III only

D) I and II only

28) The default rate of Demurrage Associates' new customers has been running at 10 percent. The average sale for each new customer amounts to $800, generating a present value of profit of $100 and a 40 percent chance of a second order next year. The default rate on second orders is only 2 percent. If the interest rate is 9 percent, what is the expected profit from each new customer? (Examine only the first two periods of potential orders.)

A) $88.70

B) $47.74

C) $43.25

D) $50.83

29) The default rate of Don's new customers has been running at 20 percent. The average sale for each new customer amounts to $500, generating a present value of profit of $200 and a 30 percent chance of a second order next year. The default rate on second orders is only 5 percent. If the interest rate is 6 percent, what is the expected profit from each new customer?

A) $152.50

B) $149.53

C) $275

D) $139.62

30) Terry's Place is currently experiencing a bad debt ratio of 4 percent. Terry is convinced that, with looser credit controls, this ratio will increase to 8 percent; however, she expects sales to increase by 10 percent as a result. The cost of goods sold is 80 percent of the selling price. Per $100 of current sales, what is Terry's expected profit under the proposed credit standards?

A) $26

B) $15.40

C) $13.20

D) $25.60

31) Tom's Toys is currently experiencing a bad debt ratio of 6 percent. Tom is convinced that, with tighter credit controls, he can reduce this ratio to 2 percent; however, he expects sales to drop by 8 percent as a result. The cost of goods sold is 75 percent of the selling price. Per $100 of current sales, what is Tom's expected profit under the proposed credit standards?

A) $15.20

B) $23

C) $19

D) $21.20

32) Factoring refers to

A) determining the aging schedule of the firm's accounts receivable.

B) the sale of a firm's accounts receivable to another firm.

C) the determination of the average collection period.

D) scoring a customer based on the 5 C's of credit.

33) In the United States, export business is insured by

A) the Export-Import Bank in association with Foreign Credit Insurance Association (FCIA).

B) Citibank.

C) the SBA.

D) the United States Department of the Treasury.

34) Which of the following countries is the heaviest user of checks?

A) The United States

B) The United Kingdom

C) Brazil

D) Canada

35) The following is (are) the main method(s) that firms use to send and receive money electronically:

A) direct payments.

B) direct deposits.

C) wire transfers.

D) All of these options are correct.

36) The following are electronic funds transfer systems available in the United States except

A) Fedwire.

B) CHIPS.

C) SWIFT.

D) ACH.

37) In the United States, large-value electronic payments are made through

A) Fedwire.

B) ACH.

C) CHIPS.

D) Fedwire and CHIPS.

38) In the United States, small-value electronic transfers are made through

A) Fedwire.

B) ACH.

C) CHIPS.

D) Fedwire and CHIPS.

39) Which of the following is a real-time gross settlement system?

A) Fedwire

B) CHIPS

C) ACH

D) All of these options are real-time gross settlement systems.

40) The following are advantages of electronic payment systems except:

A) record keeping is easy.

B) the marginal cost of transaction is low.

C) float is drastically reduced.

D) the initial investment is high.

41) Firms that receive a large volume of checks use the following to speed up availability of funds:

A) concentration banking.

B) retail banking.

C) money market deposit account.

D) None of these options are correct.

42) Check 21 allows banks to:

A) use cargo planes to send bundles of checks to one another.

B) send digital images of checks to one another instead of the checks themselves.

C) use lockboxes to speed check processing.

D) make large value payments through Fedwire.

43) The main advantage of using a netting system to settle foreign currency payments is that it

A) drastically reduces the number of payments.

B) increases the number of payments.

C) reduces the number of foreign currencies.

D) None of these options are correct.

44) A large firm may hold substantial cash balances because

A) these balances are required by the bank in the form of compensating balances.

B) the company may have accounts in many different banks.

C) the company may have a very decentralized organization.

D) All of these options are correct.

45) The market for short-term investments is called

A) capital market.

B) stock market.

C) bond market.

D) money market.

46) The discount on a 91-Treasury bill is 5.2 percent. What is the annually compounded rate of return? (Assume a 360-day discount basis.)

A) 4.8 percent

B) 5.2 percent

C) 5.4 percent

D) 5 percent

47) The discount on a 91-Treasury bill is 5.65 percent. What is the annually compounded rate of return? (Assume a 360-day discount basis.)

A) 5.2 percent

B) 5.9 percent

C) 5.6 percent

D) 5.5 percent

48) "Eurodollars" or "international dollars" are

A) dollars deposited in banks in Europe.

B) dollars deposited in the United States by foreigners.

C) dollars held by foreign governments.

D) euros or international currency deposited in the United States branches of foreign banks.

49) The following are money market instruments except

A) T-bills.

B) federal agency discount notes.

C) commercial paper.

D) preferred stocks.

50) A municipal variable rate demand note (VRDN)

I) is a long-term security;

II) has interest payments linked to the level of short-term interest rates;

III) may periodically be sold back to the issuer at face value;

IV) is tax-exempt 

A) I only

B) I and II only

C) I, II, and III only

D) I, II, III, and IV

51) Negotiable CDs are issued by

A) the United States government.

B) federal agencies.

C) banks.

D) corporations.

52) A repurchase agreement occurs when

A) a company agrees to buy back its commercial paper before maturity.

B) a bank depositor agrees, in advance, to reinvest money in a negotiable certificate of deposit.

C) an investor buys part of a government security dealer's inventory and simultaneously agrees to sell it back.

D) the federal government agrees to buy T-bills.

53) Auction-rate preferred stock offers competitive rates of return with traditional money market instruments but

A) is not rated by Moody's or Standard & Poor's.

B) still provides the corporate investor with the tax exclusion on dividend income.

C) has a fixed rate of dividend income.

D) offers a highly competitive trading market.

54) A tax-paying corporation would prefer to invest short-term money in

A) warrants.

B) auction-rate preferred stock.

C) common stock.

D) long-term bonds.

55) If the short-term commercial paper rate is 10 percent and the corporate tax rate is 35 percent, what yield would a corporation require on an investment in auction-rate preferred stock? Assume the default risk is the same as for commercial paper.

A) 15.2 percent

B) 10 percent

C) 7.3 percent

D) 6.6 percent

56) If the short-term commercial paper rate is 6 percent and the corporate tax rate is 35 percent, what yield would a corporation require on an investment in auction-rate preferred stock? Assume the default risk is the same as for commercial paper.

A) 6 percent

B) 39 percent

C) 9.2 percent

D) 4.4 percent

57) Which of the following have the most developed secondary market?

A) Treasury bills

B) Commercial paper

C) Repurchase agreements

D) Bankers' acceptances

58) As an example of trade credit terms, "3/10, EOM, net 60" is not valid.

59) If goods are sold on an open account, the customer is asked to sign an IOU.

60) Suppose that a firm sells goods on terms of 2/30, net 60. Those customers who do not take the cash discount are effectively borrowing money at approximately 2 percent per year.

61) A commercial draft is simply an order to pay.

62) If a commercial draft is an order to pay immediately, it is called a time draft.

63) Bankers' acceptances are used in overseas trade.

64) A factor buys a firm's receivables, and then the firm's customer makes payments directly to the factor.

65) In the United States, export credit insurance is provided by the Export-Import Bank in association with a group of insurance companies known as the Foreign Credit Insurance Association (FCIA).

66) One good reason to hold cash is that cash provides more liquidity than other marketable securities.

67) Concentration banking is used to slow down disbursements.

68) Lockbox systems are used to speed up collections.

69) Fedwire is a system that transfers money between banks.

70) Direct deposits are processed through Automated Clearing House (ACH) system.

71) The market for short-term investments is known as the capital market.

72) What are the major objectives of credit management?

73) Briefly explain different terms of sale used in practice.

74) What is the effective annual cost of not taking a discount under terms 3/30, net 60?

75) Briefly describe the most widely used commercial credit instruments.

76) Discuss the general principles that should be used for credit decisions.

77) What is the main objective of a collection policy?

78) Briefly explain the process of factoring accounts receivables.

79) Briefly explain how firms can protect against bad debt.

80) Discuss two important ways of speeding up collection.

81) Briefly describe the basic electronic funds transfer systems.

82) Briefly describe the additional complexities involved in international cash management.

83) What are eurodollars (international dollars)?

84) List some of the different money market instruments available for short-term investments.

85) What are short-term tax-exempts?

86) What are bankers' acceptances?