Chapter 15--Managing Short-Term Assets

Student: ___________________________________________________________________________

1. Firms hold cash balances in order to complete transactions that are necessary in business operations and as
compensation to banks for providing loans and services.
True False

2. Two of the primary motives for a firm to hold cash are the transaction motive and the precautionary motive.
True False

3. A firm's target cash balance should be set as the smaller of (1) its transaction balance plus a precautionary
(safety stock) balance or (2) its required compensating balance.
True False

4. For a firm that makes heavy use of float, being able to forecast its collections and disbursement check
clearings is essential.
True False

5. Lockbox arrangements are one way for a firm to speed up the receipt of payments from customers.
True False

6. Target cash balances are generally not affected by compensating balance requirements except during periods
of high interest rates and tight money.
True False

7. The primary purpose of compensating balances required of borrowers is to compensate the bank in the event
the borrower defaults on the loan.
True False
8. Fixed dividend preferred stock is a good candidate for marketable security holdings designed to provide
liquidity because 70 percent of the dividends are excludable from taxable income, hence the preferred would
provide a relatively high after-tax rate of return.
True False

9. The term "interest rate price risk" refers to the probability that a firm will be unable to continue making
interest payments on its debt.
True False

10. The benefits of a sound cash management program are not sensitive to interest rates.
True False

11. If there are large fluctuations in a firm's cash flows, or if there are large costs associated with selling
securities, then the firm should hold relatively small average cash balances.
True False

12. The average accounts receivables balance is determined jointly by the volume of credit sales and the days
sales outstanding.
True False

13. The four major elements in a firm's credit policy are (1) credit standards, (2) credit terms, (3) monitoring
function, and (4) collection policy.
True False

14. Credit associations and credit reporting agencies are two major sources of external credit information on
credit customers.
True False

15. If you receive some goods on April 1 with the terms 3/20, net 30, June 1 dating, it means that you will
receive a 3 percent discount if the bill is paid on or before June 20 and that the full amount must be paid 30 days
after receipt of the goods.
True False
16. Offering trade credit discounts is costly to a firm and as a result, firms that offer trade discounts are usually
those that are performing poorly and need cash quickly.
True False

17. Inventory management focuses on three basic questions: (1) how many units to hold in stock, (2) how many
units of each item to order, and (3) at what point to reorder.
True False

18. The central goal of inventory management is to provide sufficient incentives to ensure that the firm never
suffers a stock-out (i.e., runs out of an inventory item).
True False

19. Inventory management is largely self-contained; that is, only minimum coordination among other
departments such as sales, purchasing, and production is required for successful inventory management.
True False

20. Generally, ordering costs are the single most important cost element in inventory management, because they
are greater in magnitude than carrying costs.
True False

21. The economic order quantity is that order quantity which results in the minimum ordering costs.
True False

22. If the unit sales of a firm double, the optimal order quantity as determined by the EOQ model will also
double.
True False

23. If the forecasted sales or usage rate is not accurate, the EOQ model may not lead to efficient inventory
management.
True False
24. The ABC method of inventory classification helps management concentrate resources on those inventory
items that are most critical to the firm's operations.
True False

25. A just-in-time system of inventory control requires that manufacturers coordinate production with suppliers
so that raw materials or components arrive just as they are needed in the production process. The main objective
of such a system is to reduce carrying costs.
True False

26. The primary motivation behind out-sourcing is to provide the firm with an alternative source of supply in
the event that its primary supplier is unable to meet the firm's raw material or component needs.
True False

27. A Eurodollar is a U.S. dollar deposited in a bank outside the United States.
True False

28. Credit policy for the multinational firm is generally riskier due in part to the additional consideration of
exchange rates and also due to uncertainty regarding the credit worthiness of many foreign customers.
True False

29. Exchange rates influence a multinational firm's inventory policy because changing currency values can
affect the value of inventory.
True False

30. The threat of expropriation creates an incentive for the multinational firm to minimize inventory holdings
and to bring in goods only as needed.
True False

31. The credit period is length of time for which credit is granted; after that time, the credit account is
considered delinquent.
True False
32. The terms of credit include the length of the credit period and any cash discounts offered.
True False

33. The collection policy refers to the procedures the firm follows to collect its credit accounts.
True False

34. Two commonly used methods of monitoring receivables are the DuPont method and the aging schedule.
True False

35. All else equal, firms that hold greater amounts of short-term assets are considered more risky than firms that
hold grater amounts of long-term securities.
True False

36. Short term assets generally earn a higher rate of return than long-term assets, making short term assets a
more desirable investment than long-term assets.
True False

37. The target cash balance is the minimum cash balance a firm desires to maintain in order to conduct
business.
True False

38. The net float is the difference between the disbursement float and the collections float.
True False

39. If the carrying costs of inventory increase then the economic ordering quantity of inventory will increase to
insure the firm minimizes the total inventory costs.
True False

40. Synchronization of cash flows is an important cash management technique and effective synchronization
can actually increase a firm's profitability.
True False
41. Collections float offsets disbursement float. If a firm's collections float is greater than its disbursement float
then a firm is said to operate with positive net float.
True False

42. A lockbox plan is one method of speeding up the check-clearing process for customer payments and
decreasing the firm's net float position.
True False

43. A firm has a daily average collection of checks equal to $250,000. It takes the firm approximately 4 days to
convert the funds into usable cash. Assume (1) a lockbox system could be employed which would reduce the
cash conversion procedure to 21/2 days, and (2) the firm could invest any additional cash received at 6 percent
after taxes. The lockbox system would be a good buy if it costs only $23,000 annually.
True False

44. Borrowing and holding marketable securities are substitute financing alternatives, although the two
strategies may have different costs.
True False

45. Other things equal and held constant, a firm with an effective accounts receivable monitoring system, when
compared with a firm without such a monitoring system, will likely have lower additional funds needed.
True False

46. A firm's collection policy and the procedures it follows to collect accounts receivable play an important role
in keeping its deferrables period short, although too strict a collection policy can result in outright losses due to
non-payment.
True False

47. In part because money has time value, cash sales are always more profitable and more valuable than credit
sales.
True False

48. Generally, the longer the normal inventory holding period of a customer the longer the credit period. One
effect of extending the credit period to match the customer's merchandise holding period is to increase the
customer's payables deferral period which actually serves to shorten the customer's cash conversion cycle.
True False
49. If a firm's terms are 2/10, net 30 days, and its DSO is 28 days, we can be certain that the credit department is
functioning efficiently and the percentage of past due accounts is minimal.
True False

50. If your firm's DSO or aging schedule deteriorates from the first quarter of the year to the second quarter, this
is a clear indication that your firm's credit policy has weakened.
True False

51. If the average collection period or days sales outstanding is increasing the firm should consider easing its
credit policy to allow credit to more of its customers.
True False

52. Which of the following is (are) typically part of the cash budget?
A. Payment lag.
B. Payment for plant construction.
C. Cumulative cash.
D. All of the above.
E. Only answers a and c above.

53. Which of the following statements concerning the cash budget is true?
A. Depreciation expense is not explicitly included, but depreciation effects are implicitly included in estimated
tax payments.
B. Cash budgets do not include financial expenses such as interest and dividend payments.
C. Cash budgets do not include cash inflows from long-term sources such as bond issues.
D. Answers a and b above.
E. Answers a and c above.

54. Which of the following actions in managing the cash account would, in general, either not be feasible or else
not be consistent with the firm's wealth maximization objective?
A. Increase synchronization of inflows and outflows.
B. Use drafts for disbursing funds.
C. Use a lockbox plan.
D. Maintain an average balance which is equal to that required as a compensating balance or that which
minimizes total cash management costs, whichever is lower.
E. None of the above (all would be feasible and consistent actions).
55. A lockbox plan is
A. A method for safe-keeping of marketable securities.
B. Used to identify inventory safety stocks.
C. A system for slowing down the collection of checks written by a firm.
D. A system for speeding up a firm's collections of checks received.
E. Not described by any of the above statements.

56. Which of the following investments is not likely to be a proper investment for temporarily idle cash?
A. Commercial paper.
B. Treasury bills.
C. Recently issued long-term corporate bonds.
D. Government bonds due shortly.
E. AT&T bonds due within one year.

57. Which of the following is not a situation which might lead a firm to hold marketable securities:
A. The firm has purchased a fixed asset which will require a large write-off of depreciable expense.
B. The firm must meet a known financial commitment, such as financing an ongoing construction project.
C. The firm must finance seasonal operations.
D. The firm has just sold long-term securities and has not yet invested the proceeds in earning assets.
E. None of the above (all of the situations might lead the firm to hold marketable securities).

58. Which of the following statements is correct?

A. A lockbox system is an example of concentration banking.
B. For a firm that has many divisions or plants operating over a wide geographic area, payables centralization
offers little benefit.
C. If a firm increases its disbursement float, its net float will also increase, other things held constant.
D. There are no actions a firm can take to improve its synchronization of cash flows.
E. A lockbox system does not affect collections float.

59. Analyzing days sales outstanding (DSO) and the aging schedule are two common methods for monitoring
receivables. However, they can provide erroneous signals to credit managers when
A. Customers' payments patterns are changing.
B. Sales fluctuate seasonally.
C. Some customers take the discount and others do not.
D. Sales are relatively constant, either seasonally or cyclically.
E. None of the above.
60. If easing a firm's credit policy lengthens the collection period and results in a worsening of the aging
schedule then why do firms take such actions?
A. It normally stimulates sales.
B. To meet competitive pressures.
C. To increase the firm's deferral period for payables.
D. All of the above.
E. Both a and b above.

61. Which of the following statements is correct?

A. The optimal credit policy is determined primarily by the industry in which the firm operates and by current
economic conditions.
B. Normally, when a credit sale is made, inventory is reduced by the cost of goods sold and an equal amount is
credited to accounts receivable.
C. A typical business credit report provides sufficient information to eliminate the need for informed human
judgment in the credit decision.
D. A customer's credit quality is usually determined in terms of the probability of the customer's default.
E. Computers have had a significant effect in increasing efficiency in the areas of payroll and inventory, but
have had little impact in accounts receivable management.

62. In the text, the "red-line method" refers to

A. The policy of drawing a red line around certain neighborhoods on a map and then refusing to sell on credit to
people who live within those areas.
B. Restrictions imposed by companies which insure credit risks.
C. The use, in Dun & Bradstreet's reports, of a red line to show the maximum amount of credit which should be
extended to a given customer; companies using this limit when they screen customers' orders are said to be
using the "red-line method."
D. A method of controlling inventories by drawing a red line on the inside of a bin.
E. A method of controlling receivables by drawing a red line on invoices of companies that are expected to pay
late.

63. Which of the following might be attributed to efficient inventory management?

A. High inventory turnover ratio.
B. Low incidence of production schedule disruptions.
C. High total asset turnover.
D. All of the above.
E. Only answers a and c above.
64. Which of the following is not a reason for a firm to hold cash balances?
A. To cover routine payments and collections.
B. To earn high rates of interest.
C. To meet compensating balance requirements of banks.
D. To provide a safety stock in the event of unforeseen fluctuations into cash flows.
E. To take advantage of bargain purchases that might arise.

65. A minimum checking account balance that a firm must maintain with bank to help offset the costs and
services such as check clearing and cash management advice is called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. convertible

66. A cash balance that is held to enable the firm to take advantage of any bargain purchases that might arise is
called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. convertible

67. A cash balance held in reserve for unforeseen fluctuation in cash flows is called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. cash

68. Having synchronized cash flows enables a firm to

A. increase its cash balances.
B. increase its bank loans.
C. increase interest expense.
D. increase profits.
E. None of the above.
69. The value of checks that have been written and disbursed but have not been deducted from the account on
which they were written is the ____ float.
A. disbursement
B. net
C. collections
D. balance
E. deposit

70. The amount of checks that have been received and deposited but have not yet been made available to the
account in which they were deposited is the ____ float.
A. disbursement
B. net
C. collections
D. balance
E. deposit

71. What type of system allows a customer's bank to periodically transfer funds from its account to a selling
firm's bank account for payment of bills?
A. Disbursement agreement.
B. Preauthorized debit system.
C. Lockbox agreement.
D. Concentration banking system.
E. Zero-balance account.

72. Which of the following will help a firm accelerate the collection of customer's payments and the conversion
of those payments into cash?
A. Lockbox agreement.
B. Preauthorized debit system.
C. Concentration banking.
D. All of the above.
E. Only answers a and c.

73. ____ is a technique used to reduce float by having payments sent to post office boxes located near the
customer.
A. Postal deposit system
B. Preauthorized debit system
C. Concentration banking
D. Lockbox arrangement
E. Zero-balance account
74. Which of the following is one of the common methods used to control disbursements or cash outflows?
A. Lockbox agreement.
B. Zero-balance account.
C. Concentration banking.
D. All of the above.
E. Only answers b and c.

75. Which of the following is not a reason for firms to own marketable securities?
A. Marketable securities serve as a substitute for cash balances.
B. Marketable securities offer a place to temporarily put cash balance to work earning a positive return.
C. Marketable securities are used as a temporary investment to finance seasonal or cyclical operations.
D. Marketable securities are used as a temporary investment to amass funds to meet financial requirements in
the near future.
E. Marketable securities are more liquid than cash balances.

76. A liquid asset is an asset can be sold in a ____ period of time at a price ____ its fair market value.
A. relatively long; way below
B. relatively long; near
C. relatively short; way below
D. relatively short; near
E. None of the above.

77. A report showing how long accounts receivable have been outstanding is called what?
A. Time line.
B. Preauthorized debit system.
C. Aging schedule.
D. Cash discount.
E. Credit period.

78. Which of the following statements is correct?

A. Shorter term cash budgets, in general, are used primarily for planning purposes while longer term budgets
are used for actual cash control.
B. The cash budget and the capital budget are planned separately and although they are both important to the
firm, they are independent of each other.
C. Since deprecation is a non-cash charge, it does not appear on nor have an effect on the cash budget.
D. The target cash balance is set optimally such that it need not be adjusted for seasonal patterns and
unanticipated fluctuations in receipts, although it is changed to reflect long-term changes in the firm's
operations.
E. The typical actual cash budget will reflect interest on loans and income from investment of surplus cash.
These numbers are expected values and actual results might turn out differently.
79. Which of the following statements about cash management is false?
A. Depreciation expense does not appear explicitly on the cash budget, but its tax effects are included.
B. If cash flows are not uniform during the month, then weekly or perhaps daily cash budgets should be
prepared rather than monthly budgets.
C. Compensating balance requirements do not affect a firm's target cash balance.
D. Cash management involves costs, and it is important to analyze whether the benefits received outweigh the
costs incurred.
E. The cash budget is the foundation of good cash management.

80. Which of the following statement completions is correct? If the yield curve is upward sloping, then a firm's
marketable securities portfolio, assumed to be held for liquidity purposes, should be
A. Weighted toward long-term securities because they pay higher rates.
B. Weighted toward short-term securities because they pay higher rates.
C. Weighted toward U.S. Treasury securities to avoid interest rate risk.
D. Weighted toward short-term securities to avoid interest rate risk.
E. Balanced between long- and short-term securities to minimize the effects of either an upward or a downward
trend in interest rates.

81. Which of the following statements is correct?

A. Poor synchronization of cash flows which results in high cash management costs can be partially offset by
increasing disbursement float and decreasing collections float.
B. The size of a firm's net float is primarily a function of its natural cash flow synchronization and how it clears
its checks.
C. Lockbox systems are used mainly for security purposes as well as to decrease the firm's net float.
D. If a firm can speed up its collections and slow down its disbursements, it will be able to reduce its net float.
E. A firm practicing good cash management and making use of positive net float will bring its check book
balance as close to zero as possible, but must never generate a negative book balance.

82. Which of the following statements is correct?

A. Compensating balance requirements apply only to businesses, not to individuals.
B. Compensating balances are essentially costless to most firms, because those firms would normally have such
funds on hand to meet transactions needs anyway.
C. If the required compensating balance is larger than the transactions balance the firm would ordinarily hold,
then the effective cost of any loan requiring such a balance is increased.
D. Banks are prohibited from earning interest on the funds they force businesses to keep as compensating
balances.
E. All of the above statements are correct.
83. Which of the following statements is correct?
A. Depreciation is included in the estimate of cash flows (Cash flow = Net income + Depreciations), so
depreciation is set forth on a separate line in the cash budget.
B. If cash inflows and cash outflows occur on a regular basis, such as the situation where inflows from
collections occur in equal amounts each day and most payments are made regularly on the 10th of each month,
then it is not necessary to use a daily cash budget. A cash budget prepared at the end of the month will suffice.
C. Lockboxes are more important for fast food retailers such as McDonald's which deal primarily with cash than
for manufacturers such as Xerox which are generally paid by check.
D. A concentration banking system should not be used by firms that collect customers' payments using lockbox
arrangements.
E. Statements a, b, c, and d are all false.

84. Which of the following statements is correct?

A. A firm which makes 90 percent of its sales on credit and 10 percent for cash is growing at a rate of 10
percent annually. If the firm maintains stable growth it will also be able to maintain its accounts receivable at its
current level, since the 10 percent cash sales can be used to manage the 10 percent growth rate.
B. In managing a firm's accounts receivable it is possible to increase credit sales per day yet still keep accounts
receivable fairly steady if the firm can shorten the length of its collection period.
C. If a firm has a large percentage of accounts over 30 days old, it is a sign that the firm's receivables
management needs to be reviewed and improved.
D. Since receivables and payables both result from sales transactions, a firm with a high receivables-to-sales
ratio should also have a high payables-to-sales ratio.

85. Which of the following statements is correct?

A. If a firm's volume of credit sales declines then its DSO will also decline.
B. If a firm changes its credit terms from 1/20, net 40 days, to 2/10, net 45 days, the impact on sales can't be
determined because the increase in the discount is offset by the longer net terms which tends to reduce sales.
C. The DSO of a firm with seasonal sales can vary because while the sales per day figure is usually based on the
total annual sales, the accounts receivable balance will be high or low depending on the season.
D. An aging schedule is used to determine what portion of customers pay cash and what portion buy on credit.
E. Aging schedules can be constructed from the summary data provided in the firm's financial statements.

86. Which of the following statements is correct?

A. Other things held constant, the higher a firm's days sales outstanding (DSO), the better its credit department.
B. A firm will relax its credit standards only if it expects bad debts will not increase because of the change.
C. If a firm which sells on terms of "net 30" changes its policy and begins offering all customers terms of "2/10,
net 30," and if no change in sales volume occurs, then the firm's DSO will probably increase.
D. If a firm sells on terms of 2/10, net 30, and its DSO is 30 days, then its aging schedule would probably show
some past due accounts.
E. Statements a, b, c, and d are all false.
87. Which of the following would cause average inventory holdings to decrease, other things held constant?
A. Fixed order costs double.
B. The purchase price of inventory items decreases by 50 percent.
C. The carrying cost of an item decreases (as a percent of purchase price).
D. The sales forecast is revised downward by 10 percent.
E. None of the above (all would cause average inventory to increase).

88. Which of the following activities will increase the short-term net cash flow for a firm?
A. Increase a cash bonus for employees.
B. Increase the firm's days sales outstanding ratio without an increase in sales.
C. Write off old accounts receivable that are considered uncollectible.
D. Increase the average amount of time the firm takes to pay accounts.
E. Increase the time you allow the firm's customers to pay for goods.

89. The Danser Company expects to have sales of $30,000 in January, $33,000 in February, and $38,000 in
March. If 20 percent of sales are for cash, 40 percent are credit sales paid in the month following the sale, and
40 percent are credit sales paid 2 months following the sale, what are the cash receipts from sales in March?
A. $55,000
B. $47,400
C. $38,000
D. $32,800
E. $30,000

90. Jumpdisk Company writes checks averaging $15,000 a day, and it takes 5 days for these checks to clear. The
firm also receives checks in the amount of $17,000 per day, but the firm loses three days while its receipts are
being deposited and cleared. What is the firm's net float in dollars?
A. $126,000
B. $75,000
C. $32,000
D. $24,000
E. $16,000
91. Chadmark Corporation's budgeted monthly sales are $3,000. Forty percent of its customers pay in the first
month and take the 2 percent discount. The remaining 60 percent pay in the month following the sale and don't
receive a discount. Chadmark's bad debts are very small and are excluded from this analysis. Purchases for next
month's sales are constant each month at $1,500. Other payments for wages, rent, and taxes are constant at $700
per month. Construct a single month's cash budget with the information given and determine the average cash
gain or (loss) during a typical month for Chadmark Corporation.
A. $2,600
B. $800
C. $776
D. $740
E. $728

92. For the Prince Company, the average age of accounts receivable is 60 days, the average age of accounts
payable is 45 days, and the average age of inventory is 72 days. Assume a 360-day year. If Prince's annual sales
are $936,000, what is the firm's average accounts receivable balance?
A. $104,000
B. $118,000
C. $156,000
D. $212,000
E. $260,000

93. Calculate the economic ordering quantity for Nashville Records Inc., given the following information:

Sales = 15,000 units per year

Sales price = $10 per unit
Purchase price = $5
Carrying cost = 0.25 times inventory value
Fixed cost per order = $1,000

A. 3,464 units
B. 4,899 units
C. 346 units
D. 490 units
E. 1,549 units

94. Ace Hardware's EOQ is 100 widgets, and it maintains a 50 unit safety stock. Which of the following is Ace's
average inventory?
A. 100 units
B. 60 units
C. 57.07 units
D. 12.25 units
E. 75 units
95. Cross Collectibles currently fills mail orders from all over the U.S. and receipts come in to headquarters in
Little Rock, Arkansas. The firm's average accounts receivable (A/R) is $2.5 million and is financed by an 11
percent annual, simple interest bank loan. Cross is considering a regional lockbox system to speed up
collections which it believes will reduce A/R by 20 percent. The annual cost of the system is $15,000. What is
the estimated net annual savings to the firm from implementing the lockbox system?
A. $500,000
B. $30,000
C. $60,000
D. $55,000
E. $40,000

96. Fullerton Wine Company is a retailer which sells vintage wines. The company has established a policy of
reordering inventory every 30 days. A recently employed MBA has considered Fullerton's inventory problem
from the EOQ model viewpoint. If the following constitute the relevant data, how does the current policy
compare with the optimal policy?

Ordering cost = $10 per order

Carrying cost = 20% of purchase price
Purchase price = $10 per unit
Total sales for year = 1,000 units
Safety stock = 0

A. Total costs will be the same, since the current policy is optimal.
B. Total costs under the current policy will be less than total costs under the EOQ by $10.
C. Total costs under the current policy exceed those under the EOQ by $3.
D. Total costs under the current policy exceed those under the EOQ by $10.
E. Cannot be determined due to insufficient information.

97. Bass Boats Inc. currently has sales of $1,000,000, and its days sales outstanding is 30 days. The financial
manager estimates that offering longer credit terms would (1) increase the days sales outstanding to 50 days and
(2) increase sales to $1,200,000. However, bad debt losses, which were 2 percent on the old sales, would
amount to 5 percent on the incremental sales only (bad debts on the old sales would stay at 2 percent). Variable
costs are 80 percent of sales, and Bass has a 15 percent receivables financing cost. What would the annual
incremental pre-tax profit be if Bass extended its credit period?
A. -$20,000
B. -$10,000
C. $0
D. $10,000
E. $20,000
98. Reston Inc. has expected sales of $17,000,000. While 10 percent of its customers pay cash, the remaining 90
percent pay on credit with 40 percent paying on Day 10, 30 percent paying on Day 20, 15 percent paying on
Day 25, and 15 percent paying on Day 30. Assume that the cost of funds invested in receivables is 10 percent.
Suppose that the firm's customers begin paying later, such that the new DSO increases to 24 days, that the firm
uses a 360-day year, and that the firm's variable cost ratio is 80 percent. What is the additional interest cost to
Reston of the additional investment in A/R caused by the delay in payment by its customers?
A. $19,550
B. $24,438
C. $42,500
D. $78,625
E. $102,000

99. East Lansing Appliances

East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What would be the incremental bad debt losses if the change were made?
A. $315,000
B. $260,500
C. -$260,500 (bad debt losses would decline)
D. -$315,000 (bad debt losses would decline)
E. $0 (no change would occur)

100. East Lansing Appliances

East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What would be the incremental cost of carrying receivables if this change
were made?
A. $108,750
B. -$116,250 (carrying costs would decline)
C. $157,900
D. -$225,000 (carrying costs would decline)
E. $260,500
101. East Lansing Appliances
East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What are the incremental pre-tax profits from this proposal?
A. $181,250
B. $271,750
C. $256,250
D. $206,500
E. $231,250

102. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. What is the economic ordering quantity for chips?
A. 12,088
B. 3,175
C. 6,243
D. 13,675
E. 8,124

103. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If Aberwald holds a safety stock equal to a 30-day supply of chips, what is
its average inventory level?
A. 12,088
B. 3,175
C. 15,750
D. 13,675
E. 8,124
104. Aberwald Corporation
Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. Assume that Aberwald holds a safety stock equal to a 30-day supply of chips.
What is the maximum amount of inventory that Aberwald will have on hand at any time; that is, what will be
the inventory level right after a delivery is made?
A. 9,216
B. 3,175
C. 6,243
D. 13,675
E. 8,124

105. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. How many orders should Aberwald place during the year?
A. 12
B. 25
C. 30
D. 40
E. 60

106. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If the lead time for placing an order is 5 days, and Aberwald holds a safety
stock equal to a 30-day supply of chips, then at what inventory level should an order be placed?
A. 15,570
B. 3,175
C. 12,250
D. 13,675
E. 8,124
107. Aberwald Corporation
Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If Aberwald holds a safety stock equal to a 30-day supply of chips, what is
Aberwald's minimum cost of ordering and carrying inventory?
A. $28,500
B. $15,950
C. $68,440
D. $34,220
E. $47,693

108. Fashion Clothiers Inc.

Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. What is the firm's EOQ?

A. 26,833
B. 30,040
C. 43,987
D. 15,218
E. 21,456

109. Fashion Clothiers Inc.

Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. What is Fashion Clothiers' minimum cost of ordering and holding inventory?
A. $6,254
B. $10,733
C. $11,560
D. $13,563
E. $19,825
110. Fashion Clothiers Inc.
Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. Now, suppose the manufacturer offers a discount of 0.5 percent for orders of
at least 40,000 yards. Should Fashion Clothiers increase its ordering quantity to take the discount?
A. Yes; it will save $827 if it takes the discount.
B. No; it will lose $827 if it takes the discount.
C. Yes; it will save $14,400 if it takes the discount.
D. Yes; it will save $13,573 if it takes the discount.
E. No; it will lose $13,573 if it takes the discount.
Chapter 15--Managing Short-Term Assets Key

1. Firms hold cash balances in order to complete transactions that are necessary in business operations and as
compensation to banks for providing loans and services.
TRUE

2. Two of the primary motives for a firm to hold cash are the transaction motive and the precautionary motive.
TRUE

3. A firm's target cash balance should be set as the smaller of (1) its transaction balance plus a precautionary
(safety stock) balance or (2) its required compensating balance.
FALSE

4. For a firm that makes heavy use of float, being able to forecast its collections and disbursement check
clearings is essential.
TRUE

5. Lockbox arrangements are one way for a firm to speed up the receipt of payments from customers.
TRUE

6. Target cash balances are generally not affected by compensating balance requirements except during periods
of high interest rates and tight money.
FALSE

7. The primary purpose of compensating balances required of borrowers is to compensate the bank in the event
the borrower defaults on the loan.
FALSE
8. Fixed dividend preferred stock is a good candidate for marketable security holdings designed to provide
liquidity because 70 percent of the dividends are excludable from taxable income, hence the preferred would
provide a relatively high after-tax rate of return.
FALSE

9. The term "interest rate price risk" refers to the probability that a firm will be unable to continue making
interest payments on its debt.
FALSE

10. The benefits of a sound cash management program are not sensitive to interest rates.
FALSE

11. If there are large fluctuations in a firm's cash flows, or if there are large costs associated with selling
securities, then the firm should hold relatively small average cash balances.
FALSE

12. The average accounts receivables balance is determined jointly by the volume of credit sales and the days
sales outstanding.
TRUE

13. The four major elements in a firm's credit policy are (1) credit standards, (2) credit terms, (3) monitoring
function, and (4) collection policy.
TRUE

14. Credit associations and credit reporting agencies are two major sources of external credit information on
credit customers.
TRUE

15. If you receive some goods on April 1 with the terms 3/20, net 30, June 1 dating, it means that you will
receive a 3 percent discount if the bill is paid on or before June 20 and that the full amount must be paid 30 days
after receipt of the goods.
FALSE
16. Offering trade credit discounts is costly to a firm and as a result, firms that offer trade discounts are usually
those that are performing poorly and need cash quickly.
FALSE

17. Inventory management focuses on three basic questions: (1) how many units to hold in stock, (2) how many
units of each item to order, and (3) at what point to reorder.
TRUE

18. The central goal of inventory management is to provide sufficient incentives to ensure that the firm never
suffers a stock-out (i.e., runs out of an inventory item).
FALSE

19. Inventory management is largely self-contained; that is, only minimum coordination among other
departments such as sales, purchasing, and production is required for successful inventory management.
FALSE

20. Generally, ordering costs are the single most important cost element in inventory management, because they
are greater in magnitude than carrying costs.
FALSE

21. The economic order quantity is that order quantity which results in the minimum ordering costs.
FALSE

22. If the unit sales of a firm double, the optimal order quantity as determined by the EOQ model will also
double.
FALSE

23. If the forecasted sales or usage rate is not accurate, the EOQ model may not lead to efficient inventory
management.
TRUE
24. The ABC method of inventory classification helps management concentrate resources on those inventory
items that are most critical to the firm's operations.
TRUE

25. A just-in-time system of inventory control requires that manufacturers coordinate production with suppliers
so that raw materials or components arrive just as they are needed in the production process. The main objective
of such a system is to reduce carrying costs.
TRUE

26. The primary motivation behind out-sourcing is to provide the firm with an alternative source of supply in
the event that its primary supplier is unable to meet the firm's raw material or component needs.
FALSE

27. A Eurodollar is a U.S. dollar deposited in a bank outside the United States.
TRUE

28. Credit policy for the multinational firm is generally riskier due in part to the additional consideration of
exchange rates and also due to uncertainty regarding the credit worthiness of many foreign customers.
TRUE

29. Exchange rates influence a multinational firm's inventory policy because changing currency values can
affect the value of inventory.
TRUE

30. The threat of expropriation creates an incentive for the multinational firm to minimize inventory holdings
and to bring in goods only as needed.
TRUE

31. The credit period is length of time for which credit is granted; after that time, the credit account is
considered delinquent.
TRUE
32. The terms of credit include the length of the credit period and any cash discounts offered.
TRUE

33. The collection policy refers to the procedures the firm follows to collect its credit accounts.
TRUE

34. Two commonly used methods of monitoring receivables are the DuPont method and the aging schedule.
FALSE

35. All else equal, firms that hold greater amounts of short-term assets are considered more risky than firms that
hold grater amounts of long-term securities.
FALSE

36. Short term assets generally earn a higher rate of return than long-term assets, making short term assets a
more desirable investment than long-term assets.
FALSE

37. The target cash balance is the minimum cash balance a firm desires to maintain in order to conduct
business.
TRUE

38. The net float is the difference between the disbursement float and the collections float.
TRUE

39. If the carrying costs of inventory increase then the economic ordering quantity of inventory will increase to
insure the firm minimizes the total inventory costs.
FALSE

40. Synchronization of cash flows is an important cash management technique and effective synchronization
can actually increase a firm's profitability.
TRUE
41. Collections float offsets disbursement float. If a firm's collections float is greater than its disbursement float
then a firm is said to operate with positive net float.
FALSE

42. A lockbox plan is one method of speeding up the check-clearing process for customer payments and
decreasing the firm's net float position.
FALSE

43. A firm has a daily average collection of checks equal to $250,000. It takes the firm approximately 4 days to
convert the funds into usable cash. Assume (1) a lockbox system could be employed which would reduce the
cash conversion procedure to 21/2 days, and (2) the firm could invest any additional cash received at 6 percent
after taxes. The lockbox system would be a good buy if it costs only $23,000 annually.
FALSE

44. Borrowing and holding marketable securities are substitute financing alternatives, although the two
strategies may have different costs.
TRUE

45. Other things equal and held constant, a firm with an effective accounts receivable monitoring system, when
compared with a firm without such a monitoring system, will likely have lower additional funds needed.
TRUE

46. A firm's collection policy and the procedures it follows to collect accounts receivable play an important role
in keeping its deferrables period short, although too strict a collection policy can result in outright losses due to
non-payment.
FALSE

47. In part because money has time value, cash sales are always more profitable and more valuable than credit
sales.
FALSE

48. Generally, the longer the normal inventory holding period of a customer the longer the credit period. One
effect of extending the credit period to match the customer's merchandise holding period is to increase the
customer's payables deferral period which actually serves to shorten the customer's cash conversion cycle.
TRUE
49. If a firm's terms are 2/10, net 30 days, and its DSO is 28 days, we can be certain that the credit department is
functioning efficiently and the percentage of past due accounts is minimal.
FALSE

50. If your firm's DSO or aging schedule deteriorates from the first quarter of the year to the second quarter, this
is a clear indication that your firm's credit policy has weakened.
FALSE

51. If the average collection period or days sales outstanding is increasing the firm should consider easing its
credit policy to allow credit to more of its customers.
FALSE

52. Which of the following is (are) typically part of the cash budget?
A. Payment lag.
B. Payment for plant construction.
C. Cumulative cash.
D. All of the above.
E. Only answers a and c above.

53. Which of the following statements concerning the cash budget is true?
A. Depreciation expense is not explicitly included, but depreciation effects are implicitly included in estimated
tax payments.
B. Cash budgets do not include financial expenses such as interest and dividend payments.
C. Cash budgets do not include cash inflows from long-term sources such as bond issues.
D. Answers a and b above.
E. Answers a and c above.

54. Which of the following actions in managing the cash account would, in general, either not be feasible or else
not be consistent with the firm's wealth maximization objective?
A. Increase synchronization of inflows and outflows.
B. Use drafts for disbursing funds.
C. Use a lockbox plan.
D. Maintain an average balance which is equal to that required as a compensating balance or that which
minimizes total cash management costs, whichever is lower.
E. None of the above (all would be feasible and consistent actions).
55. A lockbox plan is
A. A method for safe-keeping of marketable securities.
B. Used to identify inventory safety stocks.
C. A system for slowing down the collection of checks written by a firm.
D. A system for speeding up a firm's collections of checks received.
E. Not described by any of the above statements.

56. Which of the following investments is not likely to be a proper investment for temporarily idle cash?
A. Commercial paper.
B. Treasury bills.
C. Recently issued long-term corporate bonds.
D. Government bonds due shortly.
E. AT&T bonds due within one year.

57. Which of the following is not a situation which might lead a firm to hold marketable securities:
A. The firm has purchased a fixed asset which will require a large write-off of depreciable expense.
B. The firm must meet a known financial commitment, such as financing an ongoing construction project.
C. The firm must finance seasonal operations.
D. The firm has just sold long-term securities and has not yet invested the proceeds in earning assets.
E. None of the above (all of the situations might lead the firm to hold marketable securities).

58. Which of the following statements is correct?

A. A lockbox system is an example of concentration banking.
B. For a firm that has many divisions or plants operating over a wide geographic area, payables centralization
offers little benefit.
C. If a firm increases its disbursement float, its net float will also increase, other things held constant.
D. There are no actions a firm can take to improve its synchronization of cash flows.
E. A lockbox system does not affect collections float.

59. Analyzing days sales outstanding (DSO) and the aging schedule are two common methods for monitoring
receivables. However, they can provide erroneous signals to credit managers when
A. Customers' payments patterns are changing.
B. Sales fluctuate seasonally.
C. Some customers take the discount and others do not.
D. Sales are relatively constant, either seasonally or cyclically.
E. None of the above.
60. If easing a firm's credit policy lengthens the collection period and results in a worsening of the aging
schedule then why do firms take such actions?
A. It normally stimulates sales.
B. To meet competitive pressures.
C. To increase the firm's deferral period for payables.
D. All of the above.
E. Both a and b above.

61. Which of the following statements is correct?

A. The optimal credit policy is determined primarily by the industry in which the firm operates and by current
economic conditions.
B. Normally, when a credit sale is made, inventory is reduced by the cost of goods sold and an equal amount is
credited to accounts receivable.
C. A typical business credit report provides sufficient information to eliminate the need for informed human
judgment in the credit decision.
D. A customer's credit quality is usually determined in terms of the probability of the customer's default.
E. Computers have had a significant effect in increasing efficiency in the areas of payroll and inventory, but
have had little impact in accounts receivable management.

62. In the text, the "red-line method" refers to

A. The policy of drawing a red line around certain neighborhoods on a map and then refusing to sell on credit to
people who live within those areas.
B. Restrictions imposed by companies which insure credit risks.
C. The use, in Dun & Bradstreet's reports, of a red line to show the maximum amount of credit which should be
extended to a given customer; companies using this limit when they screen customers' orders are said to be
using the "red-line method."
D. A method of controlling inventories by drawing a red line on the inside of a bin.
E. A method of controlling receivables by drawing a red line on invoices of companies that are expected to pay
late.

63. Which of the following might be attributed to efficient inventory management?

A. High inventory turnover ratio.
B. Low incidence of production schedule disruptions.
C. High total asset turnover.
D. All of the above.
E. Only answers a and c above.
64. Which of the following is not a reason for a firm to hold cash balances?
A. To cover routine payments and collections.
B. To earn high rates of interest.
C. To meet compensating balance requirements of banks.
D. To provide a safety stock in the event of unforeseen fluctuations into cash flows.
E. To take advantage of bargain purchases that might arise.

65. A minimum checking account balance that a firm must maintain with bank to help offset the costs and
services such as check clearing and cash management advice is called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. convertible

66. A cash balance that is held to enable the firm to take advantage of any bargain purchases that might arise is
called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. convertible

67. A cash balance held in reserve for unforeseen fluctuation in cash flows is called a ____ balance.
A. transactions
B. compensating
C. precautionary
D. speculative
E. cash

68. Having synchronized cash flows enables a firm to

A. increase its cash balances.
B. increase its bank loans.
C. increase interest expense.
D. increase profits.
E. None of the above.
69. The value of checks that have been written and disbursed but have not been deducted from the account on
which they were written is the ____ float.
A. disbursement
B. net
C. collections
D. balance
E. deposit

70. The amount of checks that have been received and deposited but have not yet been made available to the
account in which they were deposited is the ____ float.
A. disbursement
B. net
C. collections
D. balance
E. deposit

71. What type of system allows a customer's bank to periodically transfer funds from its account to a selling
firm's bank account for payment of bills?
A. Disbursement agreement.
B. Preauthorized debit system.
C. Lockbox agreement.
D. Concentration banking system.
E. Zero-balance account.

72. Which of the following will help a firm accelerate the collection of customer's payments and the conversion
of those payments into cash?
A. Lockbox agreement.
B. Preauthorized debit system.
C. Concentration banking.
D. All of the above.
E. Only answers a and c.

73. ____ is a technique used to reduce float by having payments sent to post office boxes located near the
customer.
A. Postal deposit system
B. Preauthorized debit system
C. Concentration banking
D. Lockbox arrangement
E. Zero-balance account
74. Which of the following is one of the common methods used to control disbursements or cash outflows?
A. Lockbox agreement.
B. Zero-balance account.
C. Concentration banking.
D. All of the above.
E. Only answers b and c.

75. Which of the following is not a reason for firms to own marketable securities?
A. Marketable securities serve as a substitute for cash balances.
B. Marketable securities offer a place to temporarily put cash balance to work earning a positive return.
C. Marketable securities are used as a temporary investment to finance seasonal or cyclical operations.
D. Marketable securities are used as a temporary investment to amass funds to meet financial requirements in
the near future.
E. Marketable securities are more liquid than cash balances.

76. A liquid asset is an asset can be sold in a ____ period of time at a price ____ its fair market value.
A. relatively long; way below
B. relatively long; near
C. relatively short; way below
D. relatively short; near
E. None of the above.

77. A report showing how long accounts receivable have been outstanding is called what?
A. Time line.
B. Preauthorized debit system.
C. Aging schedule.
D. Cash discount.
E. Credit period.

78. Which of the following statements is correct?

A. Shorter term cash budgets, in general, are used primarily for planning purposes while longer term budgets
are used for actual cash control.
B. The cash budget and the capital budget are planned separately and although they are both important to the
firm, they are independent of each other.
C. Since deprecation is a non-cash charge, it does not appear on nor have an effect on the cash budget.
D. The target cash balance is set optimally such that it need not be adjusted for seasonal patterns and
unanticipated fluctuations in receipts, although it is changed to reflect long-term changes in the firm's
operations.
E. The typical actual cash budget will reflect interest on loans and income from investment of surplus cash.
These numbers are expected values and actual results might turn out differently.
79. Which of the following statements about cash management is false?
A. Depreciation expense does not appear explicitly on the cash budget, but its tax effects are included.
B. If cash flows are not uniform during the month, then weekly or perhaps daily cash budgets should be
prepared rather than monthly budgets.
C. Compensating balance requirements do not affect a firm's target cash balance.
D. Cash management involves costs, and it is important to analyze whether the benefits received outweigh the
costs incurred.
E. The cash budget is the foundation of good cash management.

80. Which of the following statement completions is correct? If the yield curve is upward sloping, then a firm's
marketable securities portfolio, assumed to be held for liquidity purposes, should be
A. Weighted toward long-term securities because they pay higher rates.
B. Weighted toward short-term securities because they pay higher rates.
C. Weighted toward U.S. Treasury securities to avoid interest rate risk.
D. Weighted toward short-term securities to avoid interest rate risk.
E. Balanced between long- and short-term securities to minimize the effects of either an upward or a downward
trend in interest rates.

81. Which of the following statements is correct?

A. Poor synchronization of cash flows which results in high cash management costs can be partially offset by
increasing disbursement float and decreasing collections float.
B. The size of a firm's net float is primarily a function of its natural cash flow synchronization and how it clears
its checks.
C. Lockbox systems are used mainly for security purposes as well as to decrease the firm's net float.
D. If a firm can speed up its collections and slow down its disbursements, it will be able to reduce its net float.
E. A firm practicing good cash management and making use of positive net float will bring its check book
balance as close to zero as possible, but must never generate a negative book balance.

82. Which of the following statements is correct?

A. Compensating balance requirements apply only to businesses, not to individuals.
B. Compensating balances are essentially costless to most firms, because those firms would normally have such
funds on hand to meet transactions needs anyway.
C. If the required compensating balance is larger than the transactions balance the firm would ordinarily hold,
then the effective cost of any loan requiring such a balance is increased.
D. Banks are prohibited from earning interest on the funds they force businesses to keep as compensating
balances.
E. All of the above statements are correct.
83. Which of the following statements is correct?
A. Depreciation is included in the estimate of cash flows (Cash flow = Net income + Depreciations), so
depreciation is set forth on a separate line in the cash budget.
B. If cash inflows and cash outflows occur on a regular basis, such as the situation where inflows from
collections occur in equal amounts each day and most payments are made regularly on the 10th of each month,
then it is not necessary to use a daily cash budget. A cash budget prepared at the end of the month will suffice.
C. Lockboxes are more important for fast food retailers such as McDonald's which deal primarily with cash
than for manufacturers such as Xerox which are generally paid by check.
D. A concentration banking system should not be used by firms that collect customers' payments using lockbox
arrangements.
E. Statements a, b, c, and d are all false.

84. Which of the following statements is correct?

A. A firm which makes 90 percent of its sales on credit and 10 percent for cash is growing at a rate of 10
percent annually. If the firm maintains stable growth it will also be able to maintain its accounts receivable at its
current level, since the 10 percent cash sales can be used to manage the 10 percent growth rate.
B. In managing a firm's accounts receivable it is possible to increase credit sales per day yet still keep accounts
receivable fairly steady if the firm can shorten the length of its collection period.
C. If a firm has a large percentage of accounts over 30 days old, it is a sign that the firm's receivables
management needs to be reviewed and improved.
D. Since receivables and payables both result from sales transactions, a firm with a high receivables-to-sales
ratio should also have a high payables-to-sales ratio.

85. Which of the following statements is correct?

A. If a firm's volume of credit sales declines then its DSO will also decline.
B. If a firm changes its credit terms from 1/20, net 40 days, to 2/10, net 45 days, the impact on sales can't be
determined because the increase in the discount is offset by the longer net terms which tends to reduce sales.
C. The DSO of a firm with seasonal sales can vary because while the sales per day figure is usually based on
the total annual sales, the accounts receivable balance will be high or low depending on the season.
D. An aging schedule is used to determine what portion of customers pay cash and what portion buy on credit.
E. Aging schedules can be constructed from the summary data provided in the firm's financial statements.

86. Which of the following statements is correct?

A. Other things held constant, the higher a firm's days sales outstanding (DSO), the better its credit department.
B. A firm will relax its credit standards only if it expects bad debts will not increase because of the change.
C. If a firm which sells on terms of "net 30" changes its policy and begins offering all customers terms of "2/10,
net 30," and if no change in sales volume occurs, then the firm's DSO will probably increase.
D. If a firm sells on terms of 2/10, net 30, and its DSO is 30 days, then its aging schedule would probably show
some past due accounts.
E. Statements a, b, c, and d are all false.
87. Which of the following would cause average inventory holdings to decrease, other things held constant?
A. Fixed order costs double.
B. The purchase price of inventory items decreases by 50 percent.
C. The carrying cost of an item decreases (as a percent of purchase price).
D. The sales forecast is revised downward by 10 percent.
E. None of the above (all would cause average inventory to increase).

88. Which of the following activities will increase the short-term net cash flow for a firm?
A. Increase a cash bonus for employees.
B. Increase the firm's days sales outstanding ratio without an increase in sales.
C. Write off old accounts receivable that are considered uncollectible.
D. Increase the average amount of time the firm takes to pay accounts.
E. Increase the time you allow the firm's customers to pay for goods.

89. The Danser Company expects to have sales of $30,000 in January, $33,000 in February, and $38,000 in
March. If 20 percent of sales are for cash, 40 percent are credit sales paid in the month following the sale, and
40 percent are credit sales paid 2 months following the sale, what are the cash receipts from sales in March?
A. $55,000
B. $47,400
C. $38,000
D. $32,800
E. $30,000

90. Jumpdisk Company writes checks averaging $15,000 a day, and it takes 5 days for these checks to clear. The
firm also receives checks in the amount of $17,000 per day, but the firm loses three days while its receipts are
being deposited and cleared. What is the firm's net float in dollars?
A. $126,000
B. $75,000
C. $32,000
D. $24,000
E. $16,000
91. Chadmark Corporation's budgeted monthly sales are $3,000. Forty percent of its customers pay in the first
month and take the 2 percent discount. The remaining 60 percent pay in the month following the sale and don't
receive a discount. Chadmark's bad debts are very small and are excluded from this analysis. Purchases for next
month's sales are constant each month at $1,500. Other payments for wages, rent, and taxes are constant at $700
per month. Construct a single month's cash budget with the information given and determine the average cash
gain or (loss) during a typical month for Chadmark Corporation.
A. $2,600
B. $800
C. $776
D. $740
E. $728

92. For the Prince Company, the average age of accounts receivable is 60 days, the average age of accounts
payable is 45 days, and the average age of inventory is 72 days. Assume a 360-day year. If Prince's annual sales
are $936,000, what is the firm's average accounts receivable balance?
A. $104,000
B. $118,000
C. $156,000
D. $212,000
E. $260,000

93. Calculate the economic ordering quantity for Nashville Records Inc., given the following information:

Sales = 15,000 units per year

Sales price = $10 per unit
Purchase price = $5
Carrying cost = 0.25 times inventory value
Fixed cost per order = $1,000

A. 3,464 units
B. 4,899 units
C. 346 units
D. 490 units
E. 1,549 units

94. Ace Hardware's EOQ is 100 widgets, and it maintains a 50 unit safety stock. Which of the following is Ace's
average inventory?
A. 100 units
B. 60 units
C. 57.07 units
D. 12.25 units
E. 75 units
95. Cross Collectibles currently fills mail orders from all over the U.S. and receipts come in to headquarters in
Little Rock, Arkansas. The firm's average accounts receivable (A/R) is $2.5 million and is financed by an 11
percent annual, simple interest bank loan. Cross is considering a regional lockbox system to speed up
collections which it believes will reduce A/R by 20 percent. The annual cost of the system is $15,000. What is
the estimated net annual savings to the firm from implementing the lockbox system?
A. $500,000
B. $30,000
C. $60,000
D. $55,000
E. $40,000

96. Fullerton Wine Company is a retailer which sells vintage wines. The company has established a policy of
reordering inventory every 30 days. A recently employed MBA has considered Fullerton's inventory problem
from the EOQ model viewpoint. If the following constitute the relevant data, how does the current policy
compare with the optimal policy?

Ordering cost = $10 per order

Carrying cost = 20% of purchase price
Purchase price = $10 per unit
Total sales for year = 1,000 units
Safety stock = 0

A. Total costs will be the same, since the current policy is optimal.
B. Total costs under the current policy will be less than total costs under the EOQ by $10.
C. Total costs under the current policy exceed those under the EOQ by $3.
D. Total costs under the current policy exceed those under the EOQ by $10.
E. Cannot be determined due to insufficient information.

97. Bass Boats Inc. currently has sales of $1,000,000, and its days sales outstanding is 30 days. The financial
manager estimates that offering longer credit terms would (1) increase the days sales outstanding to 50 days and
(2) increase sales to $1,200,000. However, bad debt losses, which were 2 percent on the old sales, would
amount to 5 percent on the incremental sales only (bad debts on the old sales would stay at 2 percent). Variable
costs are 80 percent of sales, and Bass has a 15 percent receivables financing cost. What would the annual
incremental pre-tax profit be if Bass extended its credit period?
A. -$20,000
B. -$10,000
C. $0
D. $10,000
E. $20,000
98. Reston Inc. has expected sales of $17,000,000. While 10 percent of its customers pay cash, the remaining 90
percent pay on credit with 40 percent paying on Day 10, 30 percent paying on Day 20, 15 percent paying on
Day 25, and 15 percent paying on Day 30. Assume that the cost of funds invested in receivables is 10 percent.
Suppose that the firm's customers begin paying later, such that the new DSO increases to 24 days, that the firm
uses a 360-day year, and that the firm's variable cost ratio is 80 percent. What is the additional interest cost to
Reston of the additional investment in A/R caused by the delay in payment by its customers?
A. $19,550
B. $24,438
C. $42,500
D. $78,625
E. $102,000

99. East Lansing Appliances

East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What would be the incremental bad debt losses if the change were made?
A. $315,000
B. $260,500
C. -$260,500 (bad debt losses would decline)
D. -$315,000 (bad debt losses would decline)
E. $0 (no change would occur)

100. East Lansing Appliances

East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What would be the incremental cost of carrying receivables if this change
were made?
A. $108,750
B. -$116,250 (carrying costs would decline)
C. $157,900
D. -$225,000 (carrying costs would decline)
E. $260,500
101. East Lansing Appliances
East Lansing Appliances (ELA) expects to have sales this year of $15 million under its current credit policy.
The present terms are net 30; the days sales outstanding (DSO) is 60 days; and the bad debt loss percentage is 5
percent. Since ELA wants to improve its profitability, the treasurer has proposed that the credit period be
shortened to 15 days. This change would reduce expected sales by $500,000, but it would also shorten the DSO
on the remaining sales to 30 days. Expected bad debt losses on the remaining sales would fall to 3 percent. The
variable cost percentage is 60 percent, and the cost of capital is 15 percent.

Refer to East Lansing Appliances. What are the incremental pre-tax profits from this proposal?
A. $181,250
B. $271,750
C. $256,250
D. $206,500
E. $231,250

102. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. What is the economic ordering quantity for chips?
A. 12,088
B. 3,175
C. 6,243
D. 13,675
E. 8,124

103. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If Aberwald holds a safety stock equal to a 30-day supply of chips, what is
its average inventory level?
A. 12,088
B. 3,175
C. 15,750
D. 13,675
E. 8,124
104. Aberwald Corporation
Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. Assume that Aberwald holds a safety stock equal to a 30-day supply of chips.
What is the maximum amount of inventory that Aberwald will have on hand at any time; that is, what will be
the inventory level right after a delivery is made?
A. 9,216
B. 3,175
C. 6,243
D. 13,675
E. 8,124

105. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. How many orders should Aberwald place during the year?
A. 12
B. 25
C. 30
D. 40
E. 60

106. Aberwald Corporation

Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If the lead time for placing an order is 5 days, and Aberwald holds a safety
stock equal to a 30-day supply of chips, then at what inventory level should an order be placed?
A. 15,570
B. 3,175
C. 12,250
D. 13,675
E. 8,124
107. Aberwald Corporation
Aberwald Corporation expects to order 126,000 memory chips for inventory during the coming year, and it will
use this inventory at a constant rate. Fixed ordering costs are $200 per order; the purchase price per chip is $25;
and the firm's inventory carrying cost is equal to 20 percent of the purchase price. (Assume a 360-day year.)

Refer to Aberwald Corporation. If Aberwald holds a safety stock equal to a 30-day supply of chips, what is
Aberwald's minimum cost of ordering and carrying inventory?
A. $28,500
B. $15,950
C. $68,440
D. $34,220
E. $47,693

108. Fashion Clothiers Inc.

Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. What is the firm's EOQ?

A. 26,833
B. 30,040
C. 43,987
D. 15,218
E. 21,456

109. Fashion Clothiers Inc.

Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. What is Fashion Clothiers' minimum cost of ordering and holding inventory?
A. $6,254
B. $10,733
C. $11,560
D. $13,563
E. $19,825
110. Fashion Clothiers Inc.
Assume that Fashion Clothiers Inc. uses 1,440,000 yards of material each year. Further, assume that Fashion can
order the material at a cost of $2 per yard, plus fixed ordering costs of $100 per order. The firm's carrying cost is
20 percent of the inventory value, at cost.

Refer to Fashion Clothiers Inc. Now, suppose the manufacturer offers a discount of 0.5 percent for orders of
at least 40,000 yards. Should Fashion Clothiers increase its ordering quantity to take the discount?
A. Yes; it will save $827 if it takes the discount.
B. No; it will lose $827 if it takes the discount.
C. Yes; it will save $14,400 if it takes the discount.
D. Yes; it will save $13,573 if it takes the discount.
E. No; it will lose $13,573 if it takes the discount.