Fabozzi Frank, Peterson Pamela. Financial Management and Analysis Workbook

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190 QUESTIONS AND PROBLEMS

c. Using the Baumol model, what level of cash infusion

minimizes costs associated with cash?

2. Assume that the cash flows vary throughout the year.

Because of uncertainty surrounding the cash flows, P&R

has decided to carry a minimum balance of $500,000 in

cash. The variance of the daily cash flows is $75,000.

They operate on a 365-day year.

a. At what point will a new cash infusion be needed?

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Management of Cash and Marketable Securities 191

b. At what point should excess cash be invested in market-

able securities?

3. DOWNS Shipping ships packages nationwide. Its collec-

tion float averages $250,000 a day. DOWNS is considering

a lockbox system which was proposed by its bank in

Omaha, Nebraska, because it is in the middle of the coun-

try. The system will cost the firm $35,000, but it is esti-

mated that it will reduce the collection float by three days.

Additional processing costs of $5,000 a year will be saved

by the firm because the payments will be sent directly to

the bank. The system will necessitate the use of wire trans-

fers, which will cost the firm $9,000 per year. If DOWNS

can earn 10% on its short-term investments, is the system

worthwhile?

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192 QUESTIONS AND PROBLEMS

4. Jewlez, Inc. is a precious stone importer and wholesaler.

Jewelz sells approximately 400,000 cut and polished

stones each year. The sales occur uniformly throughout

the year. Because of high insurance fees, the carrying

cost is $7 per stone. Due to the fact that most of its

orders from customers are in advance, Jewelz can let its

inventory drop to zero before reordering. It costs the

firm $190 each time it orders and Jewelz currently

orders 5,000 stones at a time. Is this the most cost effec-

tive order size?

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CHAPTER

193

Management of Receivables and

Inventory

FILL IN THE BLANKS

Refer to Chapter 20, pages 651–673 in Financial Manage-

ment And Analysis.

1. The majority of a ﬁrm’s investment is in ______________

assets, however, it is tied up in accounts ______________

and ______________ which represent investments that are

necessary for day-to-day ______________ of the business.

A ﬁrm needs ______________ so that it will have

______________ to sell and the ______________ of inven-

tory differs among ﬁrms largely because of the

______________ of the products they sell.

2. Firms extend ______________ to customers to help stimu-

late ______________. Extending ______________ is both

a(n) ______________ and a(n) ______________ decision.

When a firm extends credit to its customers, it does so to

encourage ______________ of its goods and ______________.

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194 QUESTIONS AND PROBLEMS

The most direct ______________ is the ______________ on

the increased sales.

3. The ______________ cost is similar to the ______________

cost that we looked at for cash balances: the product of

the ______________ cost of investing in accounts receiv-

able and the ______________ in the accounts. The

______________ cost is the ______________ the firm could

have earned on its next best ______________. The invest-

ment is the amount the firm has ______________ to gener-

ate ______________.

4. The effective cost of trade ______________ for a customer

is calculated by determining the effective ______________

cost for the length of time the credit is extended.

______________ this cost makes it ______________ with

the cost of other forms of credit.

5. ______________ terms consist of the ______________

amount of credit, the length of period allowed for

______________, and the ______________ rate and

______________ period, if any. The purpose of

______________ is to attract ______________, thereby

increasing ______________, and to encourage the early

______________ of accounts, thereby reducing the amount

tied up in accounts ______________.

6. ______________ policies specify the procedures for collect-

ing ______________ accounts. Collection could start with

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Management of Receivables and Inventory 195

polite ______________, continuing in progressively

______________ steps, and ending by placing the account

in the hands of a(n) ______________ agency. In designing

the collection procedures, you must keep in mind that

______________ efforts to collect may result in

______________ future sales.

7. ______________ how well accounts ______________ are

managed can be done using financial ______________ and

______________ schedules. Financial ______________ can

be used to get an overall picture of how fast collection is

going on accounts ______________. ______________

schedules, which are breakdowns of accounts receivable

by how ______________ they have been around, help give

a more detailed picture of the ______________ efforts.

8. Ideally, a firm wants to design its ______________ policy

so that the marginal ______________ from extending

______________ equals its marginal ______________ of

extending credit. At this point, the firm ______________ own-

ers’ wealth. But the benefits and costs are ______________.

The best the firm can do in ______________ the benefits and

costs from its credit and collection policies is to learn from

its own ______________ or from the experience of others.

9. Some firms choose to form a wholly-owned ______________,

that is, a corporation ______________ by the parent firm

in order to provide the ______________ granting and

______________ function of the parent firm. The sole

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196 QUESTIONS AND PROBLEMS

purpose of ______________ finance subsidiaries is to

______________ the customers’ purchase of the parent

firm’s ______________. These subsidiaries can stimulate

______________ by providing easy access to ______________.

10.______________ is the stock of physical goods for eventual

sale. ______________ consists of raw material, work-in-

process, and finished goods available for ______________.

There are many ______________ in a decision of how much

inventory to have on hand. As with accounts receivable,

there is a trade-off between the costs of ______________ in

inventory and the costs of ______________ inventory.

There’s a cost to too much ______________ and there’s a

cost of too ______________ inventory.

11.______________ inventory can be done by looking at finan-

cial ______________ in much the same way we can monitor

receivables. The number of days of ______________ is the

ratio of the dollar value of ______________ at a point in

time to the cost of goods sold per day. This ratio is an esti-

mate of the number of ______________ worth of

______________ you have on hand. Combined with an esti-

mate of the ______________ for your goods, this ratio helps

you in planning your ______________ and ______________

of goods. The inventory turnover ratio tells, on average,

how many times ______________ flows through the firm—

from raw materials to goods sold—during the period.

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Management of Receivables and Inventory 197

SHORT ANSWER QUESTIONS

Refer to Chapter 20, pages 651–673 in Financial Manage-

ment and Analysis.

1. What is the relationship between a ﬁrm extending credit

and accounts receivable?

2. What are the implicit costs with granting discounts? What

are the costs of credit?

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198 QUESTIONS AND PROBLEMS

3. What factors should be considered when extending credit?

4. What factors influence the assessment of credit?

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Management of Receivables and Inventory 199

5. What are the reasons for holding inventory?

6. Explain the two models of inventory management.

PROBLEMS

Refer to Chapter 20, pages 651–673 in Financial Manage-

ment and Analysis.

1. The Retton Corporation currently offers terms of 2/20,

net 60 to its customers and is considering a change to 4/15,

net 60. The credit manager believes that this will reduce

the ﬁrm’s days of credit from the current 40 days to 30

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