FINA 351 – Managerial Finance, Chapter 16, (Ref. 16)
INTRODUCTION
1.
According to the opening page of the chapter, what are three good reasons why it is important for all business
students to understand short-term financial planning?
CASH AND NET WORKING CAPITAL
2.
(A) Lenders such as banks pay particular interest to borrower’s net working capital (NWC) and current ratio
(CR). NWC equals current assets (CA) minus current liabilities (CL). The CR equals CA / CL.
Determine how each of the following transactions would affect cash, NWC and the CR (use I for increase, D
is for decrease, and NE is for no effect). Assume that NWC is already positive (e.g. CR > 1).
TRANSACTION
(1) purchased inventory on account
I
CASH
D
NE
(2) collected an account receivable
I
D
NE
I
D
(3) purchased a building with cash
I
D
NE
I
(4) paid off an account payable
I
D
NE
I
I
NWC
D
NE
I
CR
D
NE
NE
I
D
NE
D
NE
I
D
NE
D
NE
I
D
NE
(B) Which of the transactions above could be recorded by a small business right before the balance sheet
date in order to increase its current ratio? (Note: This could be a desirable outcome because many lenders
require a minimum current ratio be maintained.)
THE OPERATING AND CASH CYCLES
3.
(A) Define the operating cycle.
(B) Define the cash cycle.
(C) T or F: The shorter the cash cycle, the better, even if it becomes negative.
(D Compare/contrast the operating and cash cycles of Chiquita Brands with Del Monte Foods below. Which
do you think has better working capital and cash management? Why?
(E) When the U.S. Postal Service decided to change standard delivery times from two to three days, what
would the impact be on net working capital to a firm with $10 billion in revenue? (Hint: see bottom of p. 522
in your text).
4.
Indicate whether each of the following would increase (I), decrease (D) or have no effect (NE) on the length
of the operating cycle and cash cycle.
Operating
Cash
Description
Cycle
Cycle
(A) Customers aren’t able to pay their bills as quickly due to
I
D NE
I
D NE
economic recession.
(B) Inventory turnover doubles as improvements are made in
I
D NE
I
D NE
inventory management.
(C) Payments to suppliers/vendors are accelerated in order to
I
D NE
I
D NE
take advantage of discounts.
(D) More customers start to pay with cash than with credit.
I
D NE
I
D NE
5.
The financial information for Walmart (WMT) below was taken from its financial statements available at
http://finance.yahoo.com/.
(A) Complete the value for each question mark on the solutions grid below, with the ultimate goal of finding
the length of the cash cycle (in days).
Calculation of Wal-mart’s
As of 1/31/16
As of 1/31/14 Average Balance
Cash Cycle
(000s)
(000s)
(000s)
Sales (total revenue) for year
$482,130
Not needed
N/A
Cost of Revenue for year
Inventory
Accounts Receivable (A/R)
Accounts Payables (A/P)
$360,984
Net needed
N/A
$44,469
$45,141
$44,805
$5,624
$6,778
$6,201
$58,615
$58,583
$58,599
INVENTORY PERIOD
Inventory Turnover (Cost of Revenue divided by Avg Inventory)
?
Inventory Period (365 divided by Inventory Turnover)
?
RECEIVABLE PERIOD
Receivables Turnover (Credit Sales divided by Avg Receivables)
?
Receivables Period (365 divided by Receivables Turnover)
?
OPERATING CYCLE
Operating Cycle (Inventory Period plus Receivables Period)
?
PAYABLES PERIOD
Payables Turnover (Cost of Revenue divided by Avg A/P)
?
Payables Period (365 divided by/ Payables Turnover)
?
CASH CYCLE
Cash Cycle (Operating Cycle less Payables Period)
(B) Does it appear that Walmart has good or bad cash & working capital management?
?
SHORT-TERM FINANCIAL POLICY
6.
(A) T or F: Under a flexible policy, management would have abundant inventory so that no stock-outs occur
(which would cause a customer to go away empty handed).
(B) T or F: Under a restrictive policy, management would keep the level of current assets at a minimum and
would rely on credit if cash is needed.
(C) What carrying cost would be present if your business “carried” too much cash?
(D) What carrying cost would be present if your business “carried” too much accounts receivable?
(E) What carrying costs would be present if your business “carried” too much inventory?
(F) What shortage costs that would be present if your business was short on inventory?
7.
(A) In practice, have U.S. companies over the last few decades shifted more towards a restrictive or flexible
policy? Why have they been able to do this?
(B) Between Yum!Brands (e.g. TacoBell, Pizza Hut, KFC) and JC Penny, which of the two would you
suspect has higher current assets as a percent of total assets?
Find their latest quarterly balance sheets (tickers: YUM and JCP) and determine if you guessed correctly.
SHORT-TERM BORROWING
8. (A) Which do you think would have a lower interest rate: an unsecured or a secured loan? Why?
(B) Unsecured loans are sometimes called “signature loans” because the only “collateral” is the borrower’s
signature. What is a common form of unsecured loan for small business?
(C) T or F: When a company uses its accounts receivable as collateral for a loan, this is called factoring.
9.
One of the biggest scams in modern finance was when Tino De Angelis, CEO of a very large salad oil
company, borrowed $200 million secured by large tanks of salad oil. But unbeknown to the foolish bankers,
the company had significantly overstated its oil inventory using three methods:
(1) 40-foot tanks were filled with 37 feet of seawater, which left 3-feet of oil floating on top for all the foolish
bankers to admire.
(2) Tino listed more tanks on the inventory records than actually existed. Then he had his men quickly repaint
the numbers on the tanks after the bankers had examined them, thus causing the foolish bankers to count the
same tanks twice.
(3) Tino built underground pipes that could rapidly transfer oil from one tank to another, causing the same
salad oil to be counted twice by the foolish bankers.
In the end, the foolish bankers were left out in the cold looking for their $200
million and Tino was put in the slammer for 7 years.
Question: of the three types of inventory financing, which one would have
prevented Tino from perpetuating this fraud?
Here is a picture of Tino De Angelis, CEO of Allied Crude Vegetable Refining Co. before
he was sent to the slammer for inventory fraud.