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P03 Working Capital Finance
Bachelor of Science in Accountancy (University of Saint Louis)
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WORKING CAPITAL MANAGEMENT
Net Working Capital
1
. During 1990, Mason Company’s current assets increased by $120, current liabilities decreased by $50, and net
working capital (E)
a. Increased by $70.
c. Decreased by $170.
b. Did not change.
d. Increased by $170.
CMA 1290 1-19
2
.
During the year, Mason Company's current assets increased by $130, current liabilities decreased by $60, and net
working capital (E)
A. Increased by $70.
C. Decreased by $190.
Gleim
B. Did not change.
D. Increased by $190.
3
.
A service enterprise's working capital at the beginning of January was $70,000. The following transactions occurred
during January:
Performed services on account
$30,000
Purchased supplies on account
5,000
Consumed supplies
4,000
Purchased office equipment for cash
2,000
Paid short-term bank loan
6,500
Paid salaries
10,000
Accrued salaries
3,500
What is the amount of working capital at the end of January? (M)
A. $80,500
C. $50,500
CIA 1193 IV-36
B. $78,500
D. $47,500
4
. The following are the January 1 and June 30 balance sheets of a company:
Assets (in millions)
Jan. 1
June 30
Cash
$3
$4
Accounts receivable
5
4
Inventories
8
10
Fixed assets
10
11
Total assets
$26
$29
Accounts payable
$2
$3
Notes payable
4
3
Accrued wages
1
2
Long-term debt
9
11
Stockholder's equity
10
10
Total liabilities and stockholder's equity
$26
$29
From January 1 to June 30, the net working capital (M)
A. Decreased by $1 million.
C. Increased by $1 million.
B. Stayed the same.
D. Increased by $2 million. CIA 1192 IV-52
Covenant Limitation
Maximum Loan Availment
*. It is the policy of Franz Corp. that the current ratio cannot fall below 1.5 to 1.0. Its current liabilities are P400,000
and the present current ratio is 2 to 1. How much is the maximum level of new short-term loans it can secure
without violating the policy? (M)
a. P400,000
c. P266,667
b. P300,000
d. P800,000
RPCPA 1096
5
.
A firm's current ratio is currently 1.70 to 1. Management knows it cannot violate a working capital restriction
contained in its bond indenture. If the firm's current ratio falls below 1.40 to 1, technically it will have defaulted. If
current liabilities are $200 million, the maximum new commercial paper that can be issued to finance inventory
expansion is (M)
A. $80 million.
C. $150 million.
B. $370 million.
D. $280 million.
Gleim
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6
.
7
A firm's current ratio is currently 1.75 to 1. Management knows it cannot violate a working capital restriction
contained in its bond indenture. If the firm's current ratio falls below 1.5 to 1, technically it will have defaulted. If
current liabilities are $250 million, the maximum new commercial paper that can be issued to finance inventory
expansion is (M)
A. $375.00 million.
C. $562.50 million.
B. $125.00 million.
D. $437.50 million. CMA 0683 1-8, 1292 1-23
.
Management of a company does not want to violate a working capital restriction contained in its bond indenture. If
the firm's current ratio falls below 2.0 to 1, technically it will have defaulted. The firm's current ratio is now 2.2 to 1. If
current liabilities are $200 million, the maximum new commercial paper that can be issued to finance inventory
expansion is (M)
A. $20 million.
C. $240 million.
B. $40 million.
D. $180 million.
Gleim
8
Iken Berry Farms has $5 million in current assets, $3 million in current liabilities, and its initial inventory level is $1
million. The company plans to increase its inventory, and it will raise additional short-term debt (that will show up as
notes payable on the balance sheet) to purchase the inventory. Assume that the value of the remaining current assets
will not change. The company’s bond covenants require it to maintain a current ratio that is greater than or equal to
1.5. What is the maximum amount that the company can increase its inventory before it is restricted by these
covenants?
a. $0.50 million
d. $1.66 million
e. $2.33 million
b. $1.00 million
c. $1.33 million
Brigham
.
Maximum Cash Dividend
. MFC Corporation has 100,000 shares of stock outstanding. Below is part of MFC’s Statement of Financial Position
for the last fiscal year.
MFC Corporation
Statement of Financial Position – Selected Items
December 31, 1996
9
Cash
Accounts receivable
Inventory
Prepaid assets
$455,000
900,000
650,000
45,000
Accrued liabilities
285,000
Accounts payable
550,000
Current portion, long-term notes payable
65,000
What is the maximum amount MFC can pay in cash dividends per share and maintain a minimum current ratio of 2
to 1? Assume that all accounts other than cash remain unchanged. (M)
a. $2.05
c. $3.35
b. $2.50
d. $3.80
CMA 0697 1-16
Effect of Plant Expansion on Working Capital
10
. Shaw Corporation is considering a plant expansion that will increase its sales and net income. The following data
represent management’s estimate of the impact the proposal will have on the company:
Current
Proposal
Cash
$ 100,000
$ 120,000
Accounts payable
350,000
430,000
Accounts receivable
400,000
500,000
Inventory
380,000
460,000
Marketable securities
200,000
200,000
Mortgage payable (current)
175,000
325,000
Fixed assets
2,500,000
3,500,000
Net income
500,000
650,000
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The effect of the plant expansion of Shaw’s working capital will be a(n) (M)
a. Decrease of $150,000.
c. Increase of $30,000.
b. Decrease of $30,000.
d. Increase of $120,000.
CMA 1292 1-22
11
. Finan Corporation's management is considering a plant expansion that will increase its sales and have
commensurate impact on its net working capital position. The following information presents management's
estimate of the impact the proposal will have on Finan.
Current
Proposal
Cash
$ 100,000
$ 110,000
Accounts payable
400,000
470,000
Accounts receivable
560,000
690,000
Inventory
350,000
380,000
Marketable securities
200,000
200,000
Fixed assets
2,500,000
3,500,000
Net income
500,000
650,000
The impact of the plant expansion on Finan's working capital would be (M)
A. A decrease of $100,000.
C. An increase of $100,000.
B. A decrease of $950,000.
D. An increase of $950,000. CMA 1286 1-29
12
. The Herb Salter Corporation is considering a plant expansion that will increase its sales and net income. The
following data represent management's estimate of the impact the proposal will have on the company:
Current
Proposed
Cash
$ 120,000
$ 140,000
Accounts payable
360,000
450,000
Accounts receivable
400,000
550,000
Inventory
360,000
420,000
Marketable securities
180,000
180,000
Mortgage payable (current)
160,000
310,000
Fixed assets
2,300,000
3,200,000
Net income
400,000
550,000
The effect of the plant expansion on Salter's working capital will be a(n) (M)
A. Increase of $240,000
C. Increase of $230,000
B. Decrease of $10,000
D. Increase of $10,000
Gleim
WORKING CAPITAL FINANCING POLICY
Moderate
13
. Wildthing Amusement Company’s total assets fluctuate between $320,000 and $410,000, while its fixed assets
remain constant at $260,000. If the firm follows a maturity matching or moderate working capital financing policy,
what is the likely level of its long-term financing? (E)
a. $ 90,000
d. $410,000
b. $260,000
e. $320,000
c. $350,000
Brigham
Conservative
23. Great Company has P8,000,000 in current assets, P3,500,000 of which are considered permanent current assets.
In addition, the firm has P6,000,000 invested in fixed assets. Great Company wishes to finance all fixed assets and
permanent current assets plus half of its temporary current assets with long-term financing costing 15%. Short-term
financing currently costs 10%. Great Company’s earnings before interest and taxes are P2,200,000. Income tax
rate is 40%.
How much would Real Company’s earnings after taxes be under this financing plan?
A. P112,500
C. P225,000
B. P127,500
D. P85,000
Pol Bobadilla
Aggressive
49. Normal Company has total fixed assets of P100,000 and no current liabilities. The table below displays its wide
variation in current asset components:
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1st Qtr
2nd Qtr
3rd Qtr
4th Qtr
Cash
P 20,000
P 10,000
P 15,000
P 20,000
Accounts receivable
66,000
25,000
47,000
88,000
Inventory
20,000
65,000
59,000
10,000
Total
P106,000
P100,000
P121,000
P118,000
If Normal’s policy is to finance all fixed assets and half the permanent current assets with long-term financing and
the rest with short-term financing, what is the level of long-term financing? (D)
A. P68,000
C. P150,000
Pol Bobadilla
B. P100,000
D. P155,625
Working Capital Policy Options
14
. Mason Company's board of directors has determined 4 options to increase working capital next year. Option 1 is to
increase current assets by $120 and decrease current liabilities by $50. Option 2 is to increase current assets by
$180 and increase current liabilities by $30. Option 3 is to decrease current assets by $140 and increase current
liabilities by $20. Option 4 is to decrease current assets by $100 and decrease current liabilities by $75. Which
option should Mason choose to maximize net working capital?
A. Option 1.
C. Option 3.
B. Option 2.
D. Option 4.
Gleim
15
. Jarrett Enterprises is considering whether to pursue a restricted or relaxed current asset investment policy. The
firm’s annual sales are $400,000; its fixed assets are $100,000; debt and equity are each 50 percent of total assets.
EBIT is $36,000, the interest rate on the firm’s debt is 10 percent, and the firm’s tax rate is 40 percent. With a
restricted policy, current assets will be 15 percent of sales. Under a relaxed policy, current assets will be 25 percent
of sales. What is the difference in the projected ROEs between the restricted and relaxed policies? (M)
a. 0.0%
d. 1.6%
b. 6.2%
e. 3.8%
c. 5.4%
Brigham
Comprehensive
Questions 56 thru 61 are based on the following information.
Gitman
Irish Air Services has determined several factors relative to its asset and financing mix.

The firm earns 10 percent annually on its current assets.
 The firm earns 20 percent annually on its fixed assets.
 The firm pays 13 percent annually on current liabilities.
 The firm pays 17 percent annually on longterm funds.

The firm's monthly current, fixed and total asset requirements for the previous year are summarized in the table
below:
Month
Current Assets
Fixed Assets
Total Assets
January
$45,000
$100,000
$145,000
February
40,000
100,000
140,000
March
50,000
100,000
150,000
April
55,000
100,000
155,000
May
60,000
100,000
160,000
June
75,000
100,000
175,000
July
75,000
100,000
175,000
August
75,000
100,000
175,000
September
60,000
100,000
160,000
October
55,000
100,000
155,000
November
50,000
100,000
150,000
December
50,000
100,000
150,000
56. The firm's monthly average permanent funds requirement is (E)
A. $100,000.
C. $140,000.
B. $57,500.
D. $157,500.
57. The firm's monthly average seasonal funds requirement is (M)
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A. $17,500.
B. $57,500.
C. $40,000.
D. $157,500.
58. The firm's annual financing costs of the aggressive financing strategy is (M)
A. $21,175.
C. $24,475.
B. $26,075.
D. $22,775.
59. The firm's annual financing costs of conservative financing strategy is (M)
A. $22,775.
C. $29,750.
B. $26,075.
D. $21,175.
60. The firm's annual profits on total assets for the previous year was (M)
A. $20,000.
C. $23,625.
B. $21,500.
D. $25,750.
61. If the firm's current liabilities in December were $40,000, the net working capital was (E)
A. $140,000.
C. $10,000.
B. $60,000.
D. $10,000.
Questions 62 thru 68 are based on the following information.
Flum Packages, Inc.
Assets
Current assets
Fixed assets
Gitman
Liabilities & Equity
Current Liabilities
$ 5,000
Longterm debt
12,000
Equity
13,000
Total
$30,000 Total
$30,000
The company earns 5 percent on current assets and 15 percent on fixed assets. The firm's current liabilities cost 7
percent to maintain and the average annual cost of longterm funds is 20 percent.
$10,000
20,000
62. The firm's initial ratio of current to total asset is _____.
A. 1:3
C. 2:3
B. 3:1
D. 3:2
63. The firm's initial net working capital is
A. $ 5,000.
B. $13,000.
C. $ 5,000.
D. $10,000.
64. The firm's initial annual profits on total assets is
A. $2,500.
C. $3,000.
B. $3,500.
D. $4,500.
65. If the firm was to shift $3,000 of current assets to fixed assets, the firm's net working capital would _____, the
annual profits on total assets would _____, and the risk of technical insolvency would _____, respectively.
A. increase; decrease; increase
C. increase; decrease; decrease
B. decrease; increase; decrease
D. decrease; increase; increase
66. If the firm was to shift $7,000 of fixed assets to current assets, the firm's net working capital would _____, the
annual profits on total assets would _____, and the risk of not being able to meet current obligations would _____,
respectively.
A. increase; decrease; increase
C. increase; decrease; decrease
B. decrease; increase; decrease
D. decrease; increase; increase
67. If the firm was to shift $2,000 of current liabilities to longterm funds, the firm's net working capital would _____, the
annual cost of financing would _____, and the risk of technical insolvency would _____, respectively.
A. decrease; decrease; increase
C. decrease; increase; decrease
B. increase; increase; decrease
D. increase; decrease; decrease
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68. The firm would like to increase its current ratio. This goal would be accomplished most profitably by
A. increasing current liabilities.
C. increasing current assets.
B. decreasing current liabilities.
D. decreasing current assets.
CASH MANAGEMENT
Cash Conversion Cycle
29. A firm has an average age of inventory of 60 days, an average collection period of 45 days, and an average
payment period of 30 days. The firm's cash conversion cycle is ______ days. (E)
A. 15
C. 75
B. 45
D. 135
Gitman
34. A firm has an average age of inventory of 101 days, an average collection period of 49 days, and an average
payment period of 60 days. The firm's cash conversion cycle is (E)
A. 150 days.
C. 112 days.
B. 90 days.
D. 8 days
Gitman
37. A firm has an average age of inventory of 20 days, an average collection period of 30 days, and an average
payment period of 60 days. The firm's cash conversion cycle is _____ days. (E)
A. 70
C. 10
B. 50
D. 110
Gitman
16
. If the average age of inventory is 60 days, the average age of the accounts payable is 30 days, and the average
age of accounts receivable is 45 days, the number of days in the cash flow cycle is (E)
A. 135 days.
C. 75 days.
Gleim
B. 90 days.
D. 105 days.
17
. If the average days of inventory is 90 days, the average age of accounts payable is 60 days, and the average age of
accounts receivable is 65 days, the number of days in the cash flow cycle is (E)
a. 215 days
c. 95 days
CMA 1284 1-20, RPCPA 1096
b. 150 days
d. 85 days
18
. For the Cook County 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. Assuming a 360-day year, what is the length of the
firm’s cash conversion cycle? (E)
a. 87 days
d. 48 days
b. 90 days
e. 66 days
c. 65 days
Brigham
19
. A growing company is assessing current working capital requirements. An average of 58 days is required to convert
raw materials into finished goods and to sell them. Then an average of 32 days is required to collect on receivables.
If the average time the company takes to pay for its raw materials is 15 days after they are received, then the total
cash conversion cycle for this company is (E)
A. 11 days.
C. 75 days.
B. 41 days.
D. 90 days.
CIA 0596 IV-53
20
. Spartan Sporting Goods has $5 million in inventory and $2 million in accounts receivable. Its average daily sales are
$100,000. The company’s payables deferral period (accounts payable divided by daily purchases) is 30 days. What
is the length of the company’s cash conversion cycle? (E)
a. 100 days
d. 40 days
b. 60 days
e. 33 days
c. 50 days
Brigham
31. A firm purchased raw materials on account and paid for them within 30 days. The raw materials were used in
manufacturing a finished good sold on account 100 days after the raw materials were purchased. The customer
paid for the finished good 60 days later. The firm's cash conversion cycle is ______ days. (M)
A. 10
C. 130
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B. 70
D. 190
Gitman
87. A firm with a cash conversion cycle of 175 days can stretch its average payment period from 30 days to 45 days.
This will result in a(n) _____ in the cash conversion cycle of _____ days. (M)
A. increase, 15
C. increase, 45
B. decrease, 15
D. decrease, 45
Gitman
21
. Porta Stadium Inc. has annual sales of $40,000,000 and keeps average inventory of $10,000,000. On average, the
firm has accounts receivable of $8,000,000. The firm buys all raw materials on credit, its trade credit terms are net
30 days, and it pays on time. The firm’s managers are searching for ways to shorten the cash conversion cycle. If
sales can be maintained at existing levels but inventory can be lowered by $2,000,000 and accounts receivable
lowered by $1,000,000, what will be the net change in the cash conversion cycle? Use a 360-day year. (M)
a. +105 days
d. -27 days
b. -105 days
e. -3 days
c. +27 days
Brigham
22
. Bully Corporation purchases raw materials on July 1. It converts the raw materials into inventory by September 30.
However, Bully pays for the materials on July 20. On October 31, it sells the finished goods inventory. Then, the firm
collects cash from the sale 1 month later on November 30. If this sequence accurately represents the average
working capital cycle, what is the firm's cash conversion cycle in days? (D)
A. 92 days.
C. 123 days.
B. 133 days.
D. 153 days.
Gleim
23
. You have recently been hired to improve the performance of Multiplex Corporation, which has been experiencing a
severe cash shortage. As one part of your analysis, you want to determine the firm’s cash conversion cycle. Using
the following information and a 360-day year, what is your estimate of the firm’s current cash conversion cycle? (M)
Current inventory = $120,000.
Annual sales = $600,000.
Accounts receivable = $160,000.
Accounts payable = $25,000.
Total annual purchases = $360,000.
Purchases credit terms: net 30 days.
Receivables credit terms: net 50 days.
a. 49 days
d. 168 days
b. 193 days
e. 143 days
c. 100 days
Brigham
24
. Gaston Piston Corp. has annual sales of $50,000,000 and maintains an average inventory level of $15,000,000. The
average accounts receivable balance outstanding is $10,000,000. The company makes all purchases on credit and
has always paid on the 30th day. The company is now going to take full advantage of trade credit and pay its
suppliers on the 40th day. If sales can be maintained at existing levels but inventory can be lowered by $2,000,000
and accounts receivable lowered by $2,000,000, what will be the net change in the cash conversion cycle? (Assume
there are 360 days in the year.) (M)
a. -14.4 days
d. -25.6 days
b. -18.8 days
e. -38.8 days
c. -28.8 days
Brigham
25
. Kolan Inc. has annual sales of $36,500,000 ($100,000 a day on a 365-day basis). On average, the company has
$12,000,000 in inventory and $8,000,000 in accounts receivable. The company is looking for ways to shorten its cash
conversion cycle, which is calculated on a 365-day basis. Its CFO has proposed new policies that would result in a 20
percent reduction in both average inventories and accounts receivables. The company anticipates that these policies
will also reduce sales by 10 percent. Accounts payable will remain unchanged. What effect would these policies have
on the company’s cash conversion cycle? (M)
a. -40 days
d. +22 days
b. -22 days
e. +40 days
c. -13 days
Brigham
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26
. Jordan Air Inc. has average inventory of $1,000,000. Its estimated annual sales are 12 million and the firm estimates its
receivables conversion period to be twice as long as its inventory conversion period. The firm pays its trade credit on time;
its terms are net 30. The firm wants to decrease its cash conversion cycle by 10 days. It believes that it can reduce its
average inventory to $900,000. Assume a 360-day year and that sales will not change. By how much must the firm also
reduce its accounts receivable to meet its goal of a 10-day reduction? (D)
a. $ 101,900
d. $ 333,520
b. $1,000,000
e. $
0
Brigham
c. $ 233,333
209.A firm has arranged for a lockbox system to reduce collection time of accounts receivable. Currently the firm has an
average collection period of 43 days, an average age of inventory of 50 days, and an average payment period of 10
days. The lockbox system will reduce the average collection period by 3 days by reducing processing, mail, and
clearing float. The firm's cash conversion cycle _____. (E)
A. increases by 3 days
C. will not change
B. decreases by 3 days
D. is 93 days
Annual Savings
81. A firm has annual operating outlays of $1,800,000 and a cash conversion cycle of 60 days. If the firm currently pays
12 percent for negotiated financing and reduces its cash conversion cycle to 50 days, the annual savings is
A. $ 50,000
C. $ 6,000.
B. $200,000
D. $216,000.
Gitman
82. A firm has a cash conversion cycle of 60 days. Annual outlays are $12 million and the cost of negotiated financing
is 12 percent. If the firm reduces its average age of inventory by 10 days, the annual savings is ______.
A. $104,000
C. $ 28,800
Gitman
B. $144,000
D. $40,000
Cash Flow
27
. FLF Corporation had income before taxes of $50,000. Included in the calculation of this amount was depreciation of
$6,000, a charge of $7,000 for the amortization of bond discounts, and $5,000 for interest paid. The estimated
pretax cash flow for the period is (M)
A. $50,000
C. $37,000
B. $57,000
D. $63,000
Gleim
28
. RLF Corporation had income before taxes of $60,000 for the year 1991. Included in this amount was depreciation
of $5,000, a charge of $6,000 for amortization of bond discounts, and $4,000 for interest expense. The estimated
cash flow for the period is (M)
a. $60,000.
c. $49,000.
b. $66,000.
d. $71,000.
CMA 0692 1-26
29
. Shown below is a forecast of sales for Cooper Inc. for the first 4 months of the year (all amounts are in thousands of
dollars).
January
February
March
April
Cash sales
$ 15
$ 24
$18
$14
Sales on credit
100
120
90
70
On average, 50% of credit sales are paid for in the month of sale, 30% in the month following the sale, and the
remainder is paid 2 months after the month of sale. Assuming there are no bad debts, the expected cash inflow for
Cooper in March is (M)
A. $138,000
C. $119,000
B. $122,000
D. $108,000
CMA 1295 1-8
Baumol’s Model of Cash Balances
Number of Conversions
7. Suppose that the interest rate on Treasury bills is 6%, and every sale of bills costs $20. You pay out cash at a rate
of $400,000 a month. According to Baumol's model of cash balances, how many times a month should you sell
bills?
A. 30
C. 7
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B. 20
D. 4
B&M
6. Suppose that the interest rate on Treasury bills is 4%, and every sale of bills costs $40. You pay out cash at a rate
of $1,000,000 a quarter. According to Baumol's model of cash balances, how many times a quarter should you sell
bills? (Approximately.)
A. 20
C. 12
B. 22
D. 11
B&M
4. Suppose that the interest rate on Treasury bills is 6%, and every sale of bills costs $60. You pay out cash at a rate
of $800,000 a year. According to Baumol's model of cash balances, how many times a year should you sell bills?
A. 20
C. 50
B. 35
D. 15
B&M
Q
5. Suppose that the interest rate on Treasury bills is 6%, and every sale of bills costs $60. You pay out cash at a rate
of $800,000 a year. According to Baumol's model of cash balances, what is Q?
A. $17,376
D. $50,000
B. $20,000
E. $40,000
B&M
C. $10,000
8. Suppose that the interest rate on Treasury bills is 6%, and every sale of bills costs $20. You pay out cash at a rate
of $400,000 a month. According to Baumol's model of cash balances, what is Q?
A. $16,000
D. $43,000
B. $24,000
E. $57,000
B&M
C. $31,000
Float
Availability Float
18. On an average day, a company writes checks totaling $1,500. These checks take 7 days to clear. The company
receives checks totaling $1,800. These checks take 4 days to clear. The cost of debt is 9%. What is the firm's
availability float?
A. $10,500
C. $1,800
B. $7,200
D. None of the above
B&M
Disbursement Float
17. On an average day, a company writes checks totaling $1,500. These checks take 7 days to clear. The company
receives checks totaling $1,800. These checks take 4 days to clear. The cost of debt is 9%. What is the firm's
disbursement float?
A. $10,500
C. $1,800
B&M
B. $1,500
D. None of the above
20. H. Pottamus, Inc., has $2 million on deposit with the bank. It now writes checks for $100,000 and $200,000 and
deposits a check for $80,000. Two weeks later it learns that the $200,000 check and $80,000 check have cleared.
What is the company's disbursement float?
A. $300,000
C. $100,000
B. $220,000
D. -$100,000
B&M
Net Float
19. On an average day, a company writes checks totaling $1,500. These checks take 7 days to clear. The company
receives checks totaling $1,800. These checks take 4 days to clear. The cost of debt is 9%. What is the firm's net
float?
A. $300
C. $2,100
B. $3,300
D. $1,200
B&M
30
. Assume that each day a company writes and receives checks totaling $10,000. If it takes 5 days for the checks to
clear and be deducted from the company's account, and only 4 days for the deposits to clear, what is the float? (E)
A. $10,000
C. $(10,000)
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B. $0
D. $50,000
CMA 0694 1-24
31
. Average daily collection of checks for a firm is $40,000. The firm also writes on the average $35,000 of checks daily.
If the collection period for checks is 5 days, calculate the net float. (E)
A. $25,000
C. $175,000
B. $40,000
D. $200,000
Gleim
32
. Jumpdisk Company writes checks averaging $15,000 a day, and it takes five 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? (E)
a. $126,000
d. $ 24,000
b. $ 75,000
e. $ 16,000
c. $ 32,000
Brigham
Annual Savings
12. As part of a union negotiation agreement, the United Clerical Workers Union conceded to be paid every two weeks
instead of every week. A major firm employing hundreds of clerical workers had a weekly payroll of $1,000,000 and
the cost of shortterm funds was 12 percent. The effect of this concession was to delay clearing time by one week.
Due to the concession, the firm
A. realized an annual loss of $120,000.
C. increased its cash cycle.
B. realized an annual savings of $120,000. D. decreased its cash turnover.
Gitman
Opportunity Cost
33
. What is the opportunity cost of keeping a cash balance of $2 million, if the daily interest rate is 0.02% and the
average transaction cost of investing money overnight is $50? (E)
A. $50
C. $400
B. $350
D. $40,000
Gleim
Questions 2 and 3 are based on the following information.
CIA 0595 IV-45 & 46
A company has a 10% cost of borrowing and incurs fixed costs of $500 for obtaining a loan. It has stable, predictable
cash flows, and the estimated total amount of net new cash needed for transactions for the year is $175,000. The
company does not hold safety stocks of cash.
34
. When the average cash balance of the company is higher, the <List A> the cash balance is <List B>.
List A
List B
A.
Opportunity cost of holding
Higher
B.
Total transactions costs associated with obtaining
Higher
C.
Opportunity cost of holding
Lower
D.
Total costs of holding
Lower
35
. If the average cash balance for the company during the year is $20,916.50, the opportunity cost of holding cash for
the year will be
A. $2,091.65
C. $8,750.00
B. $4,183.30
D. $17,500.00
Lock Box Service
Increase in Average Cash Balance
36
. CMR is a retail mail order firm that currently uses a central collection system that requires all checks to be sent to its
Boston headquarters. An average of 5 days is required for mailed checks to be received, 4 days for CMR to process
them and 1½ days for the checks to clear through its bank. A proposed lockbox system would reduce the mail and
process time to 3 days and the check clearing time to 1 day. CMR has an average daily collection of $100,000. If
CMR should adopt the lockbox system, its average cash balance would increase by (E)
a. $250,000.
c. $650,000.
b. $400,000.
d. $800,000.
CMA 1286 1-30
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37
. DLF is a retail mail order firm that currently uses a central collection system that requires all checks to be sent to its
Boston headquarters. An average of 6 days is required for mailed checks to be received, 3 days for DLF to process
them, and 2 days for the checks to clear through its bank. A proposed lockbox system would reduce the mailing and
processing time to 2 days and the check clearing time to 1 day. DLF has an average daily collection of $150,000. If
DLF adopts the lockbox system, its average cash balance will increase by (E)
A. $1,200,000
C. $600,000
Gleim
B. $750,000
D. $450,000
Daily Income (Loss)
24. Assume that the average number of daily payments to a lock-box is 200, the average size of the payment is $1,000,
the rate of interest per day is 0.02% (i.e., 0.0002), the savings in mail time is 2 days, and the savings in processing
time is 1 day. What is the daily return from operating the lock-box?
A. $80
C. $120
B. $100
D. $130
B&M
Increase in Annual Income (Loss)
. What are the expected annual savings from a lockbox system that collects 200 checks per day averaging $500
each, and reduces mailing and processing times by 2.0 and 0.5 days, respectively, if the annual interest rate is 6%?
(E)
A. $250,000
C. $6,000
B. $12,000
D. $15,000
Gleim
38
39
. A firm has daily cash receipts of $300,000. A bank has offered to provide a lockbox service that will reduce the
collection time by 3 days. The bank requires a monthly fee of $2,000 for providing this service. If money market
rates are expected to average 6% during the year, the additional annual income (loss) of using the lockbox service
is (E)
A. ($24,000)
C. $30,000
B. $12,000
D. $54,000
Gleim
40
. Foster Inc. is considering implementing a lock box collection system at a cost of $80,000 per year. Annual sales are
$90 million, and the lockbox system will reduce collection time by 3 days. If Foster can invest funds at 8%, should it
use the lockbox system? Assume a 360-day year. (E)
a. Yes, producing savings of $140,000 per year.
b. Yes, producing savings of $60,000 per year.
c. No, producing a loss of $20,000 per year.
d. No, producing a loss of $60,000 per year.
CMA 1295 1-14
41
. 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 a bank loan with 11
percent annual interest. Cross is considering a regional lockbox system to speed up collections that 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? (M)
a. $500,000
d. $ 55,000
b. $ 30,000
e. $ 40,000
c. $ 60,000
Brigham
42
. A company has daily cash receipts of $150,000. The treasurer of the company has investigated a lock box service
whereby the bank that offers this service will reduce the company’s collection time by four days at a monthly fee of
$2,500. If money market rates average 4% during the year, the additional annual income (loss) from using the lock
box service would be (E)
a. $6,000.
c. $12,000.
b. $(6,000).
d. $(12,000).
CMA 0694 1-19
43
. A banker has offered to set up and operate a lock box system for your company. Details are given below. Estimate
the annual savings.
Average number of daily payments
325
Average size of payments
$1,250
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Daily interest rate
Saving in mailing time
Saving in processing time
Bank charges
Assume 250 processing days per year. (M)
A. $3,273
C. $23,500
B. $22,675
D. $47,000
0.021%
1.3 days
0.9 days
$0.30
Gleim
44
. Cleveland Masks and Costumes Inc. (CMC) has a majority of its customers located in the states of California and
Nevada. Keystone National Bank, a major west coast bank, has agreed to provide a lockbox system to CMC at a
fixed fee of $50,000 per year and a variable fee of $0.50 for each payment processed by the bank. On average,
CMC receives 50 payments per day, each averaging $20,000. With the lockbox system, the company's collection
float will decrease by 2 days. The annual interest rate on money market securities is 6%. If CMC makes use of the
lockbox system, what would be the net benefit to the company? Use 365 days per year. (M)
A. $59,125
C. $50,000
B. $60,875
D. $120,000 CMA Samp Q1-6
Optimal Lock-Box Alternative
45
. Newman Products has received proposals from several banks to establish a lockbox system to speed up receipts.
Newman receives an average of 700 checks per day averaging $1,800 each, and its cost of short-term funds is 7%
per year. Assuming that all proposals will produce equivalent processing results and using a 360-day year, which
CMA 0697 1-13
one of the following proposals is optimal for Newman? (M)
a. A $0.50 fee per check.
c. A fee of 0.03% of the amount collected.
b. A flat fee of $125,000 per year.
d. A compensating balance of $1,750,000
46
. A firm has daily cash receipts of $300,000 and is interested in acquiring a lockbox service in order to reduce
collection time.
 Bank 1's lockbox service costs $3,000 per month and will reduce collection time by 3 days.
 Bank 2's lockbox service costs $5,000 per month and will reduce collection time by 4 days.
 Bank 3's lockbox service costs $500 per month and will reduce collection time by 1 day.
 Bank 4's lockbox service costs $1,000 per month and will reduce collection time by 2 days.
If money market rates are expected to average 6% during the year, and the firm wishes to maximize income, which
bank should the firm choose? (M)
A. Bank 1.
C. Bank 3.
B. Bank 2.
D. Bank 4.
Gleim
Other Cash Management Systems
Change in Profit (Loss)
*. QRS makes large cash payments averaging P17,000 daily. The company changed from using checks to sight
drafts which will permit it to hold unto its cash for one extra day. If QRS can use the extra cash to earn 14%
annually, what annual peso return will it earn? (E)
a. P652.10
c. P6.52
b. P6,521.00
d. P2,380
RPCPA 1097
47
. What is the benefit for a firm with daily sales of $15,000 to be able to reduce the collection period by 2 days, given
an 8% annual opportunity cost of funds? (M)
A. $2,400 annual benefit.
C. $600 annual benefit.
B. $1,200 annual benefit.
D. $7,500 annual benefit.
Gleim
48
. A firm has daily cash receipts of $100,000 and collection time of 2 days. A bank has offered to decrease the
collection time on the firm’s deposits by two days for a monthly fee of $500. If money market rates are expected to
average 6% during the year, the net annual benefit loss) from having this service is (M)
a. $3,000
c. $0
b. $12,000
d. $6,000
CMA 0696 1-12
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49
. A firm has daily cash receipts of $200,000. A commercial bank has offered to reduce the collection time by 3 days.
The bank requires a monthly fee of $4,000 for providing this service. If money market rates will average 12% during
the year, the additional annual income (loss) of having the service is (M)
A. $(24,000).
C. $66,240.
B. $24,000.
D. $68,000. CMA 0683 1-7
50
. A firm has daily cash receipts of $300,000. A commercial bank has offered to reduce the collection time by 2 days.
The bank requires a monthly fee of $3,000 for providing this service. If the money market rates will average 11%
during the year, the annual pretax income (loss) from using the service is (M)
A. $(30,000)
C. $66,000
B. $30,000
D. $63,000 Gleim
Point of Indifference
51
. Average daily cash outflows are $3 million for Farms Inc. A new cash management system can add 2 days to the
disbursement schedule. Assuming Farms earns 10% on excess funds, how much should the firm be willing to pay
per year for the cash management system. (E)
a. $6,000,000.
c. $1,500,000.
b. $3,000,000.
d. $600,000.
CMA 1295 1-3
52
. Troy Toys is a retailer operating in several cities. Its individual store managers deposit daily collections at a local
bank in a noninterest-bearing checking account. Twice per week, the local bank issues a depository transfer check
(DTC) to the central bank at headquarters. The controller of the company is considering using a wire transfer
instead. The additional cost of each transfer would be $25; collections would be accelerated by two days; and an
annual interest rate paid by the central bank is 7.2% (0.02% per day). At what amount of dollars transferred would it
be economically feasible to use a wire transfer instead of the DTC? Assume a 360-day year. (M)
CMA 1294
1-17
a. It would never be economically feasible. c. Any amount greater than $173.
b. $125,000 or above.
d. Any amount greater than $62,500
53
. Best Computers believes that its collection costs could be reduced through modification of collection procedures.
This action is expected to result in a lengthening of the average collection period from 28 days to 34 days; however,
there will be no change in uncollectible accounts. The company's budgeted credit sales for the coming year are
$27,000,000, and short-term interest rates are expected to average 8%. To make the changes in collection
procedures cost beneficial, the minimum savings in collection costs (using a 360-day year) for the coming year
would have to be (M)
A. $30,000.
C. $180,000.
B. $360,000.
D. $36,000.
CMA 1292 1-20
54
. Best Computers believes that its collection costs could be reduced through modification of collection procedures.
This action is expected to result in a lengthening of the average collection period from 30 to 35 days; however, there
will be no change in uncollectible accounts, or in total credit sales. Furthermore, the variable cost ratio is 60%, the
opportunity cost of a longer collection period is assumed to be negligible, the company's budgeted credit sales for
the coming year are $45,000,000, and the required rate of return is 6%. To justify changes in collection procedures,
the minimum annual reduction of costs (using a 360-day year and ignoring taxes) must be (M)
A. $375,000
C. $125,000
B. $37,500
D. $22,500
Gleim
Checking Accounts
55
. Kemple is a newly established janitorial firm, and the owner is deciding what type of checking account to open.
Kemple is planning to keep a $500 minimum balance in the account for emergencies and plans to write roughly 80
checks per month. The bank charges $10 per month plus a $0.10 per check charge for a standard business
checking account with no minimum balance. Kemple also has the option of a premium business checking account
that requires a $2,500 minimum balance but has no monthly fees or per check charges. If Kemple’s cost of funds is
10%, which account should Kemple choose?
a. Standard account, because the savings is $34 per year.
b. Premium account, because the savings is $34 per year.
c. Standard account, because the savings is $16 per year.
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d. Premium account, because the savings is $16 per year.
CMA 0697 1-20
Economic Conversion Quantity (ECQ)
Optimum Conversion Size
47. Gear Inc.. has a total annual cash requirement of P9,075,000 which are to be paid uniformly. Gear has the
opportunity to invest the money at 24% per annum. The company spends, on the average, P40 for every cash
conversion to marketable securities.
What is the optimal cash conversion size?
a. P60,000
c. P55,000
b. P45,000
d. P72,500
Pol Bobadilla
Average Cash Balance
. A company uses the following formula in determining its optimal level of cash.
56
If b = fixed cost per transaction
i = interest rate on marketable securities
t = total demand for cash over a period of time
This formula is a modification of the economic order quantity (EOQ) formula used for inventory management.
Assume that the fixed cost of selling marketable securities is $10 per transaction and the interest rate of marketable
securities is 6% per year. The company estimates that it will make cash payments of $12,000 over a one-month
period. What is the average cash balance (rounded to the nearest dollar)? (E)
a. $1,000
c. $3,464
CMA 0696 1-10
b. $2,000
d. $6,928
47. Mott Co. has a total annual cash requirement of P9,075,000 which are to be paid uniformly. Mott has the opportunity
to invest the money at 24% per annum. The company spends, on the average, P40 for every cash conversion to
marketable securities.
What is the optimum average cash balance?
a. P60,000
c. P45,000
b. P55,000
d. P27,500
Pol Bobadilla
MARKETABLE SECURITIES
Current Price
57
. Assuming a 360 day year, the current price of its $100 U.S. Treasury bill due in 180 days on a 6% discount basis is
(E)
c. $100.00
a. $97.00
b. $94.00
d. $93.00
CMA 0694 1-26
58
. Hendrix, Inc. is interested in purchasing a $100 U.S. Treasury bill and was presented with the following options:
Due Date
Discount Rate
Option 1
180 days
6%
Option 2
360 days
3.5%
Option 3
120 days
8%
Option 4
240 days
4.5%
If Hendrix wishes to buy the Treasury bill at the lowest purchasing price, which option should be chosen, assuming a
360-day year? (M)
A. Option 1.
C. Option 3.
B. Option 2.
D. Option 4.
Gleim
Annually Compounded Rate of Return
4. The discount on a 91-Treasury bill is 5.2%. What is the annually compounded rate of return?
A. 4.8%
C. 5.4%
B. 5.2%
B&M
5. The discount on a 91-Treasury bill is 5.65%. What is the annually compounded rate of return?
A. 5.2%
C. 5.6%
B. 5.9%
D. 5.5%
B&M
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6. The discount on a 91-Treasury bill is 4.83%. What is the annually compounded rate of return?
A. 4.83%
D. 5.13%
B. 4.78%
E. 5.0%
C. 1.22%
B&M
Economic Conversion Quantity
Questions 98 and 99 are based on the following information.
Gleim
Snobiz, Inc. has $2 million invested in Treasury bills yielding 8% per annum; this investment will satisfy the firm's need
for funds during the coming year.
59
. If it costs $50 to sell these bills, regardless of the amount, how much should be withdrawn at a time? (E)
C. $250,000
A. $50,000
B. $100,000
D. $500,000
60
. If Snobiz, Inc. needs $167,000 a month, how frequently should the CFO sell off Treasury bills? (M)
A. About every 3 days.
C. About every 15 days.
B. About every 9 days.
D. About every 18 days.
Yield on Floating-rate Preferred Stock
18. If the short-term commercial paper rate is 10% and the corporate tax rate is 35%, what yield would a corporation
require on an investment in floating-rate preferred stock? Assume the default risk is the same as for commercial
paper.
A. 15.2%
C. 7.3%
B. 10.0%
D. 6.6%
B&M
19. If the short-term commercial paper rate is 6% and the corporate tax rate is 35%, what yield would a corporation
require on an investment in floating-rate preferred stock? Assume the default risk is the same as for commercial
paper.
A. 6.0%
C. 9.2%
B. 39%
D. 4.4%
B&M
20. If the short-term commercial paper rate is 8% and the corporate tax rate is 35%, what yield would a corporation
require on an investment in floating-rate preferred stock? Assume the default risk is the same as for commercial
paper.
A. 5.8%
C. 4.6%
B. 5.3%
D. 4.4%
B&M
RECEIVABLES MANAGEMENT
Accounts Receivable Balance
*. JBJ Company’s account balance at June 30, 1987 for account receivables and related allowances for doubtful
accounts were P600,000 and P3,000 respectively. Aging of accounts receivable indicated that P48,000 of the June
30, 1987 receivable may be uncollectible. Net realizable value of accounts receivable were: (E)
a. P597,000
c. P539,000
b. P552,000
d. none of these
RPCPA 1087
61
. The Irwin Corporation has $3 million per year in credit sales. The company's average day's sales outstanding is 40
days. Assuming a 360-day year, what is Irwin's average amount of accounts receivable outstanding? (E)
A. $500,000
C. $250,000
B. $333,333
D. $75,000
Gleim
49. A company has sales of $1,800,000 (70% are credit), a gross profit ratio of 55%, an accounts receivable turnover of
12 times, and an inventory turnover of 4 times. The average accounts receivable balance is
a. $202,500
c. $315,000
b. $247,500
d. $450,000 ($105,000)
L&H
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*.
Ten Q’s Inc. has an inventory conversion period of 60 days, a receivable conversion period of 35 days, and a
payment cycle of 26 days. If its sales for the period just ended amounted to P972,000, what is the investment in
accounts receivable? (Assume 360 days a year.) (E)
a. P85,200
c. P94,500
b. P72,450
d. P79,600
RPCPA 0595
62
. For the Flesher Company, the average age of accounts receivable is 48 days, the average age of accounts payable
is 32 days, and the average age of inventory is 59 days. Assume a 360-day year. If McIntyre's annual sales are
$2,050,200, what is the firm's investment in accounts receivable? (E)
A. $96,000
C. $182,240
B. $336,005
D. $273,360
Gleim
63
. For the Fratzie Company, the average age of accounts receivable is 48 days, the average age of accounts payable
is 32 days, and the average age of inventory is 60 days. Assume a 360-day year. If Fratzie's annual sales are
$2,870,280, what is the firm's investment in accounts receivable? (E)
A. $127,567
C. $478,381
B. $382,704
D. $637,839
Gleim
64
. The company sells 10,000 units at a unit selling price of 66 annually. Assume that the average collection period is
25 days. After the credit policy is well established, what is the expected average accounts receivable balance for the
company at any moment in time, assuming a 365-day year? (E)
A. 684.93
C. 27,123.30
B. 1,808.22
D. 45,205.48
CIA 0594 IV-36
65
. Jackson Distributors sells to retail stores on credit terms of 2/10, net/30. Daily sales average 150 units at a price of
$300 each. Assuming that all sales are on credit and 60% of customers take the discount and pay on day 10 while
the rest of the customers pay on day 30. The amount of Jackson’s account receivable is (D)
a. $1,350,000.
c. $900,000.
b. $990,000.
d. $810,000.
CMA 1295 1-6
95. Collectrite Company sells on terms 3/10, net 30. Total sales for the year are P900,000. Forty percent of the
customers pay on the tenth day and take discounts, the other 60 percent pay, on average, 45 days after their
purchases.
What is the average amount of receivables?
A. P70,000
C. P77,200
B. P77,500
D. P67,500
Pol Bobadilla
66
. A firm averages $4,000 in sales per day and is paid on an average, within 30 days of the sale. After they receive
their invoice, 55% of the customers pay in cash while the remaining 45% pay by credit card. Approximately how
much would the company have in accounts receivable on its balance sheet on a given date? (M)
a. $4,000
c. $48,000
d. $54,000
CMA 1294 1-22
b. $120,000
*.
Simba Corp., whose gross sales amounted to P1,200,000 sold on terms of 3/10, net 30. The collections manager
estimated that 30% of the customers pay on the 10th day and take discounts; 40% on the 30th day; and the
remaining 30% pay, on the average, 40 days after the purchase. If management would toughen on its collection
policy and require that all non-discount customers pay on the 30th day, how much would be the receivables
balance? (M)
a. P60,000
c. P70,000
b. P80,000
d. Zero
RPCPA 0595
67
. Ruth Company currently has $1,000,000 in accounts receivable. Its days sales outstanding (DSO) is 48 days. The
company wants to reduce its DSO to the industry average of 32 days by pressuring more of its customers to pay
their bills on time. The company’s CFO estimates that if this policy is adopted the company’s average sales will fall
by 10 percent. Assuming that the company adopts this change and succeeds in reducing its DSO to 32 days and
does lose 10 percent of its sales, what will be the level of accounts receivable following the change? Assume a
360-day year. (M)
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a. $600,000
b. $666,667
c. $750,000
d. $900,000
e. $966,667
Brigham
Days Receivable
68
. An organization offers its customers credit terms of 5/10 net 20. One-third of the customers take the cash discount
and the remaining customers pay on day 20. On average, 20 units are sold per day, priced at $10,000 each. The
rate of sales is uniform throughout the year. Using a 360-day year, the organization has days sales outstanding, to
the nearest full day, of
A. 13 days.
C. 17 days.
B. 15 days.
D. 20 days.
CIA 1195 IV-7
*.
Hakuna Inc. sells on terms of 3/10, net 30 days. Gross sales for the year are P2,400,000 and the collections
department estimates that 30% of the customers pay on the 10th day and take discounts; 40% pay on the 30th day;
and the remaining 30% pay, on the average, 40 days after the purchase. Assuming 360 days per year, what is the
average collection period. (M)
a. 40 days.
c. 20 days
RPCPA 0595
b. 15 days.
d. 27 days.
69
. Clauson, Inc. grants credit terms of 1/15, net 30 and projects gross sales for next year of $2,000,000. The credit
manager estimates that 40% of their customers pay on the discount date, 40% on the net due date, and 20% pay 15
days after the net due date. Assuming uniform sales and a 360-day year, what is the projected days’ sales
outstanding rounded to the nearest whole day? (M)
a. 20 days.
c. 27 days.
b. 24 days.
d. 30 days.
CMA 0697 1-9
Carrying Cost on Accounts Receivable
94. The Tempo Company has an inventory conversion period of 60 days, a receivable conversion period of 30 days,
and a payable payment period of 45 days. The Tempo’s variable cost is 60% and annual fixed costs of P600,000.
The current cost of capital for Tempo is 12%.
If Tempo’s annual sales are P3,375,000 and all sales are on credit, what is the firm’s carrying cost on accounts
receivable, using 360 days year?
A. P281,250
C. P20,250
Pol Bobadilla
B. P168,750
D. P56,250
Days Receivable & Average Accounts Receivable Balance
70
. Sixty percent of Baco's annual sales of $900,000 is on credit. If its year-end receivables turnover is 4.5, what is the
average collection period and the year-end receivables, respectively (assume a 365-day year)? (M)
A. 81 days and $120,000.
C. 73 days and $108,000.
B. 73 days and $120,000.
D. 81 days and $200,000.
Gleim
Questions 48 and 49 are based on the following information.
CIA 0594 IV-35 & 36
A company sells 10,000 skateboards a year at $66 each. All sales are on credit, with terms of 3/10, net 30, that is, a 3%
discount if payment is made within 10 days; otherwise full payment is due at the end of 30 days. One half of the
customers are expected to take advantage of the discount and pay on day 10. The other half are expected to pay on day
30. Sales are expected to be uniform throughout the year for both types of customers.
71
. A company sells 10,000 skateboards a year at $66 each. All sales are on credit, with terms of 3/10, net 30, which
means three percent discount if payment is made within 10 days; otherwise full payment is due at the end of 30
days. One half of the customers are expected to take advantage of the discount and pay on day 10. The other half
are expected to pay on day 30. Sales are expected to be uniform throughout the year for both types of customers.
What is the expected average collection period for the company?
A. 10 days.
C. 20 days.
B. 15 days.
D. 30 days.
72
. Assume that the average collection period is 25 days. After the credit policy is well established, what is the expected
average accounts receivable balance for the company at any point in time, assuming a 365-day year? (E)
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A. $684.93
B. $1,808.22
C. $27,123.30
D. $45,205.48
Collection Efficiency
28. A firm has annual sales of $365 million. Currently, customers take an average of 60 days to pay. If the collection
period can be permanently reduced by one day and the cost of capital is 10%, what is the increase in company
value?
A. Zero
C. $500,000
B. $100,000
D. $1 million
B&M
Aging of Accounts Receivable
Questions 160 & 161 are based on the following information.
Gitman
A breakdown of Teffan, Inc.'s outstanding accounts receivable dated June 30, 2003 on the basis of the month in which
the credit sale was initially made follows. The firm extends 30day credit terms.
Month of Credit Sale
Accounts Receivable
June, 2003
$ 410,000
May, 2003
340,000
April, 2003
270,000
March, 2003
200,000
February, 2003 or before
100,000
Total
$1,320,000
160.Accounts receivable over 90 days total
A. $200,000.
B. $470,000.
C. $300,000.
D. $100,000.
161.An evaluation of the firm's collection efforts based on the aging schedule would suggest
A. poor credit management.
C. superior credit management.
B. satisfactory credit management.
D. overzealous collection efforts.
Customer Default
29. The default rate of Demurrage Associates' new customers has been running at 10%. The average sale for each
new customer amounts to $800, generating a profit of $100 and a 40% chance of a repeat order next year. The
default rate on repeat orders is only 2%. If the interest rate is 9%, what is the expected profit from each new
customer?
A. $88.70
D. $43.25
B. $47.75
E. $50.83
C. $101.00
B&M
30. The default rate of Don's new customers has been running at 20%. The average sale for each new customer
amounts to $500, generating a profit of $200 and a 30% chance of a repeat order next year. The default rate on
repeat orders is only 5%. If the interest rate is 6%, what is the expected profit from each new customer?
A. $152.50
C. $275.00
B. $149.53
D. $100.00
B&M
Seasonal Dating
Questions 10 and 11 are based on the following information.
CIA 1194 IV-29 & 30
Effective September 1, a company initiates seasonal dating as a component of its credit policy, allowing wholesale
customers to make purchases early but not requiring payment until the retail selling season begins. Sales occur as
follows:
Date of Sale
Quantity Sold
September 1
300 units
October 1
100 units
November 1
100 units
December 1
150 units
January 1
50 units
 Each unit has a selling price of $10, regardless of the date of sale.
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




The terms of sale are 2/10 net 30, January 1 dating.
All sales are on credit.
All customers take the discount and abide by the terms of the discount policy.
All customers take advantage of the new seasonal dating policy.
The peak selling season for all customers is mid-November to late December.
73
. For the selling firm, which of the following is not an expected advantage of initiating seasonal dating?
IV-29
A. Reduced storage costs.
C. Attractive credit terms for customers.
D. Reduced uncertainty about sales volume.
B. Reduced credit costs.
CIA
1194
74
. For sales after the initiation of the seasonal dating policy on September 1, total collections on or before January 11
will be
A. $0
C. $6,860
B. $6,370
D. $7,000
CIA 1194 IV-30
Change in Credit Terms
Prime Rate
75
. The high cost of short-term financing has recently caused a company to reevaluate the terms of credit it extends to
its customers. The current policy is 1/10, net 60. If customers can borrow at the prime rate, at what prime rate must
the company change its terms of credit in order to avoid an undesirable extension in its collection of receivables?
(E)
A. 2%
C. 7%
Gleim
B. 5%
D. 8%
Effect on Accounts Receivable Balance
. A firm sells on terms of 2/10 net 60. It sells 1,000 units per day at a unit price of $10. On 60% of sales, customers
take the cash discount. On the remaining 40% of sales, customers pay, on average, in 70 days. What would be the
impact on the balance of accounts receivable if the firm initiates a more aggressive collection policy and is able to
reduce the average payment period to 60 days for those customers not taking the cash discount? (Assume sales
levels are unaffected by the change in policy.) (E)
A. Decrease by $4,000.
C. Decrease by $240,000.
B. Decrease by $40,000.
D. Decrease by $280,000.
CIA 1196 IV-44
76
77
. A company plans to tighten its credit policy. The new policy will decrease the average number of days for collection
from 75 to 50 days and will reduce the ratio of credit sales to total revenue from 70% to 60%. The company
estimates that projected sales will be 5% less if the proposed new credit policy is implemented. If projected sales
for the coming year are $50 million, calculate the dollar amount of accounts receivable of this proposed change in
credit policy. Assume a 360-day year. (M)
a. $3,817,445 decrease.
c. $3,333,334 decrease.
b. $6,500,000 decrease.
d. $18,749,778 increase.
CMA 1294 1-24
*.
Prest Corp. plans to tighten its credit policy. Below is the summary of changes:
OLD
NEW
Average number of days collection
75
50
Ratio of credit sales to total sales
70%
60%
Projected sales for the coming year is P100 million and it is estimated that the new policy will result in a 5% loss if
the new policy is implemented. Assuming a 360-day year, what is the effect of the new policy on accounts
receivable? (M)
a. Decrease of P13 million.
c. Decrease of P5 million.
b. No change.
d. Decrease of P 6.67 million. RPCPA 0596
78
. Dartmoor Company’s budgeted sales for the coming year are $40,500,000, of which 80% are expected to be credit
sales at terms of n/30. Dartmoor estimates that a proposed relaxation of credit standards will increase credit sales
by 20% and increase the average collection period from 30 days to 40 days. Based on a 360 day year, the
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proposed relaxation of credit standards will result in an expected increase in the average accounts receivable
balance of (M)
a. $540,000
c. $900,000
b. $2,700,000
d. $1,620,000
CMA 1292 1-21
48. Real Company’s budgeted sales for the coming year are P50,000,000 of which 75% are expected to be credit sales
at terms of n/30. Real estimates that a proposed relaxation of credit standards will increase credit sales by 20% and
increase the average collection period from 30 days to 40 days. Based on a 360-day year, the proposed relaxation
of credit standards will increase average accounts receivable balance by: (E)
a. P1,200,000
c. P1,875,000
b. P3,125,000
d. P5,000,000
Pol Bobadilla
79
. Flyn Company's budgeted sales for the coming year are expected to be $50,000,000, of which 75% are expected to
be credit sales at terms of n/30. Flyn estimates that a proposed relaxation of credit standards will increase credit
sales by 25% and increase the average collection period from 20 days to 30 days. Based on a 360-day year, the
proposed relaxation of credit standards will result in an expected increase in the average accounts receivable
balance of (M)
A. $520,840
C. $2,083,340
B. $1,822,930
D. $3,906,270
Gleim
*.
Numero 1 Co.’s budgeted sales for the coming year are P96 million, of which 80% are expected to be credit sales at
terms of n/30. The company estimates that a proposed relaxation of credit standards would increase credit sales by
30% and increase the average collection period form 30 days to 45 days. Based on a 360-day year, the proposed
relaxation of credit standards would result to an increase in accounts receivable balance of (M)
a. P6,880,000
c. P2,880,000
b. P1,920,000
d. P6,080,000
RPCPA 0595
80
. Cannon Company has enjoyed a rapid increase in sales in recent years, following a decision to sell on credit. However, the
firm has noticed a recent increase in its collection period. Last year, total sales were $1 million, and $250,000 of these sales
were on credit. During the year, the accounts receivable account averaged $41,096. It is expected that sales will increase in
the forthcoming year by 50 percent, and, while credit sales should continue to be the same proportion of total sales, it is
expected that the days sales outstanding will also increase by 50 percent. If the resulting increase in accounts receivable
must be financed externally, how much external funding will Cannon need? Assume a 365-day year.
a. $ 41,096
d. $106,471
b. $ 51,370
e. $ 92,466
c. $ 47,359
Brigham
New Accounts Receivable Balance
. Ruth Company currently has $1,000,000 in accounts receivable. Its days sales outstanding (DSO) is 50 days. The
company wants to reduce its DSO to the industry average of 32 days by pressuring more of its customers to pay their bills
on time. The company’s CFO estimates that if this policy is adopted the company’s average sales will fall by 10 percent.
Assuming that the company adopts this change and succeeds in reducing its DSO to 32 days and does lose 10 percent of
its sales, what will be the level of accounts receivable following the change? Assume a 365-day year.
a. $576,000
d. $900,000
b. $633,333
e. $966,667
c. $750,000
Brigham
81
Incremental Investment in Accounts Receivable
*. Slippers Mart has sales of P3 million. Its credit period and average collection period are both 30 days and 1% of its
sales end as bad debts. The general manager intends to extend the credit period to 45 days which will increase
sales by P300,000. However, bad debts losses on the incremental sales would be 3%. Costs of products and
related expenses amount to 40% exclusive of the cost of carrying receivables of 15% and bad debts expenses.
Assuming 360 days a year, the change in policy would result to incremental investment in receivables of (M)
a. P24,704.
c. P701,573.
b. P65,000.
d. P9,750.
RPCPA 1095
144.A firm is considering relaxing credit standards, which will result in annual sales increasing from $1.5 million to $1.75
million, the cost of annual sales increasing from $1,000,000 to $1,125,000, and the average collection period
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increasing from 40 to 55 days. The bad debt loss is expected to increase from 1 percent of sales to 1.5 percent of
sales. The firm's required return on investments is 20 percent. The firm's cost of marginal investment in accounts
receivable is (D)
A. $5,556.
C. $12,153.
B. $9,943.
D. $152,778.
Gitman
Expected Discounts Taken
*. The Liberal Sales Co. budgeted sales for the coming year are P30 million of which 80% are expected to be on
credit. The company wants to change its credit terms from n/30 to 2/10, n/30. If the new credit terms are adopted,
the company estimates that cash discounts would be taken on 40% of the credit sales and the new uncollectible
amount would be unchanged. The adoption of the new credit terms would result in expected discount availed of in
the coming year of (E)
a. P600,000
c. P480,000
RPCPA 0596
b. P288,000
d. P192,000
82
. Price Publishing is considering a change in its credit terms from n/30 to 2/10, n/30. The company’s budgeted sales
for the coming year are $24,000,000, of which 90% are expected to be made on credit. If the new credit terms are
adopted, Price estimates that discounts will be taken on 50% of the credit sales; however, uncollectible accounts will
be unchanged. The new credit terms will result in expected discounts taken in the coming year of (M)
a. $216,000
c. $240,000
b. $432,000
d. $480,000
CMA 1292 1-19
83
. Catfur Publishing is considering a change in its credit terms from n/20 to 3/10, n/20. The company's budgeted sales
for the coming year are $20,000,000, of which 80% are expected to be made on credit. If the new credit terms are
adopted, Catfur management estimates that discounts will be taken on 60% of the credit sales; however,
uncollectible accounts will be unchanged. The new credit terms will result in expected discounts taken in the coming
year of (M)
A. $288,000
C. $360,000
B. $480,000
D. $600,000
Gleim
Pretax Cost of Carrying Additional Investment in Receivables
*. Mr. S. Mart assumed the presidency of Riches Corp. He instituted new policies and with respect to credit policy,
below is a summary of relevant information:
Old Credit Policy
New Credit Policy
Sales
P1,800,000
P1,980,000
Average collection period
30 days
36 days
The company requires a rate of return of 10% and a variable cost ratio of 60%. Using a 360-day year, the pre-tax
cost of carrying the additional investment in receivables under the new policy would be (M)
a. P4,800
c. P3,000
b. P2,880
d. P4,080
RPCPA 1096
84
. The following information regarding a change in credit policy was assembled by the Wilson Wax Company. The
company has a required rate of return of 11% and a variable cost ratio of 50%. The opportunity cost of a longer
collection period is assumed to be negligible.
Old Credit Policy
New Credit Policy
Sales
$4,600,000
$4,960,000
Average collection period
30 days
35 days
The pretax cost of carrying the additional investment in receivables, assuming a 360-day year, is (M)
A. $5,439
C. $13,778
B. $10,878
D. $98,890
Gleim
85
. The following information regarding a change in credit policy was assembled by the Wilson Wax Company. The
company has a required rate of return of 10% and a variable cost ratio of 60%.
Old Credit Policy
New Credit Policy
Sales
$3,600,000
$3,960,000
Average collection period
30 days
36 days
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The pretax cost of carrying the additional investment in receivables, using a 360-day year, would be (M)
A. $5,760.
C. $8,160.
B. $9,600.
D. $960.
CMA 1289 1-16
Effect on Before Tax Profit (Loss)
138.A firm is analyzing a relaxation of credit standards that is expected to increase sales 10 percent. The firm is
currently selling 400 units at an average sale price per unit of $575, and the variable cost per unit is $400 at the
current sales volume. The average cost per unit is $425. What is the additional profit contribution from sales if
credit standards are relaxed? (E)
A. $23,000
C. $6,000
B. $16,000
D. $7,000
Gitman
31. Terry's Place is currently experiencing a bad debt ratio of 4%. Terry is convinced that, with looser credit controls,
this ratio will increase to 8%; however, she expects sales to increase by 10% as a result. The cost of goods sold is
80% of the selling price. Per $100 of current sales, what is Terry's expected profit under the proposed credit
standards?
A. $26.0
C. $13.2
B. $15.4
D. $25.6
B&M
32. Tom's Toys is currently experiencing a bad debt ratio of 6%. Tom is convinced that, with tighter credit controls, he
can reduce this ratio to 2%; however, he expects sales to drop by 8% as a result. The cost of goods sold is 75% of
the selling price. Per $100 of current sales, what is Tom's expected profit under the proposed credit standards?
A. $15.2
D. $27.0
B. $23.0
E. $21.2
B&M
C. $19.0
33. Toni's Catering is currently experiencing a bad debt ratio of 5%. Toni is convinced that, with looser credit controls,
this ratio will increase to 10%; however, she expects sales to increase by 20% as a result. The cost of goods sold is
90% of the selling price. Per $100 of current sales, what is Toni's expected profit under the proposed credit
standards?
A. $0
C. $10
B. $12
D. $5
B&M
86
. A company with $4.8 million in credit sales per year plans to relax its credit standards, projecting that this will
increase credit sales by $720,000. The average collection period for new customers is expected to be 75 days, and
the payment behavior of the existing customers is not expected to change. Variable costs are 80% of sales. The
firm’s opportunity cost is 20% before taxes. Assuming a 360-day year, what is the company’s profit (loss) on the
planned change in credit terms? (M)
a. $0
c. $144,000
b. $28,800
d. $120,000
CMA 0696 1-13
*.
The Sales Director of Can Can Co. suggests that certain credit terms be modified. He estimates the following
effects:

Sales will increase by at least 20%.

Accounts receivable turnover will be reduced to 8 times from the present turnover of 10 times.

Bad debts, now at 1% of sales will increase to 1.5%.
Sales before the proposed changes is at P900,000. Variable cost ratio is 55% and desired rate of return is 20%.
Fixed expenses amount to P150,000.
Should the company allow the revision of its credit terms? (M)
a. Yes, because income will increase by P64,800 (P68,850).
b. Yes, because losses will be reduced by P78,800.
c. No, because income will be reduced by P13,000.
d. No, because losses will increase by P28,000.
RPCPA 0594
Effect on After Tax Profit (Loss)
*. Wasting Resource Co. has annual credit sales of P4 million. Its average collection period is 40 days and bad debts
are 5% of sales. The credit and collection manager is considering instituting a stricter collection policy, whereby bad
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debts would be reduced to 2% of total sales, and the average collection period would fall to 30 days. However,
sales would also fall by an estimated P500,000 annually. Variable costs are 60% of sales and the cost of carrying
receivables is 12%. Assuming a tax rate of 35% and 360 days a year, the incremental change in the profitability of
the company if stricter policy would be implemented would be (D)
a. Zero as the positive and negative effects offset each other.
b. A reduction in net income by P70,000.
c. A reduction in net income by P38,350.
d. A reduction in net income by P35,400.
RPCPA 0597
87
. Lawson Company has the opportunity to increase annual sales $100,000 by selling to a new group of customers.
Based on sales, the uncollectible expense is expected to be 15% and collection costs will be 5%. The company’s
manufacturing and selling expenses are 70% of sales, and the effective tax rate is 40%. If Lawson accepts this
opportunity, the company’s after tax profit will increase by (M)
a. $4,000.
c. $10,000.
d. $9,000.
CMA 1290 1-30
b. $6,000.
88
. Parkison Company can increase annual sales by $150,000 if it sells to a new, riskier group of customers. The
uncollectible accounts expense is expected to be 16% of sales, and collection costs will be 4%. The company's
manufacturing and selling expenses are 75% of sales, and its effective tax rate is 38%. If Parkison accepts this
opportunity, its after-tax income will increase by (M)
A. $2,850
C. $7,500
B. $4,650
D. $8,370
Gleim
*.
Crest Co. has the opportunity to increase annual sales by P1 million by selling to new riskier customers. It has been
estimated that uncollectible expenses would be 15% and collection costs 5%. The manufacturing and selling costs
are 70% of sales and corporate tax is 35%. If it pursues this opportunity, the after tax profit will (M)
a. Increase by P35,000.
c. Increase by P65,000.
RPCPA 0596
b. Increase by P97,500.
d. Remain the same.
Return on Equity
. Daggy Corporation has the following simplified balance sheet:
Cash
$ 25,000
Current liabilities
$200,000
Inventories
190,000
Accounts receivable
125,000
Long-term debt
300,000
Net fixed assets
360,000
Common equity
200,000
Total assets
$700,000
Total claims
$700,000
The company has been advised that their credit policy is too generous and that they should reduce their days sales
outstanding to 36 days (assume a 365-day year). The increase in cash resulting from the decrease in accounts
receivable will be used to reduce the company’s long-term debt. The interest rate on long-term debt is 10 percent and
the company’s tax rate is 30 percent. The tighter credit policy is expected to reduce the company’s sales to $730,000
and result in EBIT of $70,000. What is the company’s expected ROE after the change in credit policy?
a. 14.88%
d. 18.38%
b. 16.63%
e. 16.25%
c. 15.86%
ROE
89
Credit Policy Options
90
. A firm currently sells $500,000 annually with 3% bad debt losses. Two alternative policies are available. Policy A
would increase sales by $500,000, but bad debt losses on additional sales would be 8%. Policy B would increase
sales by an additional $120,000 over Policy A and bad debt losses on the additional $120,000 of sales would be
15%. The average collection period will remain at 60 days (6 turns per year) no matter the decision made. The profit
margin will be 20% of sales and no other expenses will increase. Assume an opportunity cost of 20%. What should
the firm do? (M)
A. Make no policy change.
B. Change to only Policy A.
C. Change to Policy B (means also taking Policy A first).
D. All policies lead to the same total firm profit, thus all policies are equal.
Gleim
Comprehensive
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Questions 96 & 97 are based on the following information.
Pol Bobadilla
Smart, Inc. is considering changing its credit terms from 2/15, net 30, to 3/10, net 30 in order to speed up collections. At
present, 40% of Smart’s customers take the 2% discount. Under the new terms, discount customers are expected to
rise to 50%. Regardless of the credit terms, half of the customers who do not take the discount are expected to pay on
time, whereas the remainder will pay 10 days late. The change does not involve a relaxation of credit standards;
therefore bad debt losses are not expected to rise above their present 2% level. However, the more generous cash
discount terms are expected to increase sales from P2 million to P2.6 million per year. Smart’s variable cost ratio is
75%, the interest rate on funds invested in accounts receivable is 9%, and the firm’s income tax rate is 40%.
96. The incremental carrying cost on receivable is (M)
A. P843.75
C. P8,889
B. P643.75
D. P6,667
97. The incremental after tax profit from the change in credit terms is (D)
A. P68,493
C. P65,640
B. 60,615
D. P57,615
Questions 140 thru 143 are based on the following information.
Gitman
Caren's Canoes is considering relaxing its credit standards to encourage more sales. As a result, sales are expected to
increase 15 percent from 300 canoes per year to 345 canoes per year. The average collection period is expected to
increase to 40 days from 30 days and bad debts are expected to double the current 1 percent level. The price per canoe
is $850, the variable cost per canoe is $650 and the average cost per unit at the 300 unit level is $700. The firm's
required return on investment is 20 percent.
140.What is the firm's additional profit contribution from sales under the proposed relaxation of credit standards? (E)
A. $2,250
C. $9,000
B. $6,750
D. $69,000
141.What is the cost of marginal investments in accounts receivable under the proposed plan? (M)
A. $1,817
C. $1,733
B. $1,867
D. $1,617
142.What is the cost of marginal bad debts under the proposed plan? (E)
A. $383
C. $3,315
B. $765
D. $5,100
143.What is the net result of implementing the proposed plan? (M)
A. + $3,952
C. + $2,083
B. $3,868
D. $2,083
Questions 165 thru 170 are based on the following information.
Gitman
Dizzy Animators, Inc. currently makes all sales on credit and offers no cash discount. The firm is considering a 3 percent
cash discount for payment within 10 days. The firm's current average collection period is 90 days, sales are 400 films
per year, selling price is $25,000 per film, variable cost per film is $18,750 per film, and the average cost per film is
$21,000. The firm expects that the change in credit terms will result in a minor increase in sales of 10 films per year, that
75 percent of the sales will take the discount, and the average collection period will drop to 30 days. The firm's bad debt
expense is expected to become negligible under the proposed plan. The bad debt expense is currently 0.5 percent of
sales. The firm's required return on equalrisk investments is 20 percent.
165.What is the firm's marginal profit contribution from sales under the proposed plan of initiating the cash discount?
A. $22,500
C. $62,500
B. $40,000
D. $100,000
166.What is the marginal investment in accounts receivable under the proposed plan?
A. $1,234,375
C. $1,567,300
B. $1,382,500
D. $1,841,570
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167.What is the cost of marginal investment in accounts receivable under the proposed plan?
A. $313,460
C. $246,875
B. $276,500
D. $368,314
168.What are the savings of marginal bad debts under the proposed plan?
A. $500,000
C. $10,000
B. $50,000
D. $5,000
169.What is the cost of the marginal cash discount?
A. $768,750
C. $307,500
B. $300,000
D. $230,625
170.What is the net result of increasing the cash discount?
A. +$33,750
C. +$128,750
B. $33,750
D. $58,750
Factoring
Annual Cost of Financing
91
. A company enters into an agreement with a firm that will factor the company’s accounts receivable. The factor
agrees to buy the company’s receivables, which average $100,000 per month and have an average collection
period of 30 days. The factor will advance up to 80% of the face value of receivables at an annual rate of 10% and
charge a fee of 2% on all receivables purchased. The controller of the company estimates that the company would
save $18,000 in collection expenses over the year. Fees and interest are not deducted in advance. Assuming a
360-day year, what is the annual cost of financing? (M)
a. 10.0%
c. 14.0%
b. 12.0%
d. 17.5%
CMA 0696 1-30
Proceeds
. A firm often factors its accounts receivable. Its finance company requires a 6% reserve and charges a 1.4%
commission on the amount of the receivables. The remaining amount to be advanced is further reduced by an
annual interest charge of 15%. What proceeds (rounded to the nearest dollar) will the firm receive from the finance
company at the time a $100,000 account due in 60 days is factored? (M)
A. $92,600
C. $90,285
B. $96,135
D. $85,000
Gleim
92
93
. A firm that often factors its accounts receivable has an agreement with its finance company that requires the firm to
maintain a 6% reserve and charges 1% commission on the amount of receivables. The net proceeds would be
further reduced by an annual interest charge of 10% on the monies advanced. Assuming a 360-day year, what
amount of cash (rounded to the nearest dollar) will the firm receive from the finance company at the time a $100,000
account that is due in 90 days is turned over to the finance company? (M)
A. $93,000
C. $83,700
B. $90,000
D. $90,675
CMA 0694 1-29
94
. A firm often factors its accounts receivable. The finance company requires an 8% reserve and charges a 1.5%
commission on the amount of the receivable. The remaining amount to be advanced is further reduced by an annual
interest charge of 16%. What proceeds (rounded to the nearest dollar) will the firm receive from the finance
company at the time a $110,000 account that is due in 60 days is turned over to the finance company? (M)
A. $81,950.
C. $96,895.
B. $83,630.
D. $99,550.
CMA 0683 1-13
95
. Gatsby, Inc. is going to begin factoring its accounts receivable and has collected information on the following four
finance companies:
Required Reserves Commissions
Annual InterestCharge
Company A
6%
1.4%
15%
Company B
7%
1.2%
12%
Company C
5%
1.7%
20%
Company D
8%
1.0%
5%
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Which company will give Gatsby the highest proceeds from a $100,000 account due in 60 days? Assume a 360-day
year. (D)
A. Company A.
C. Company C.
B. Company B.
D. Company D.
Gleim
Discounting of Notes Receivable
*. On September 15, 19x7, LTW Corporation accepted from a customer a P100,000, 90-day, 20% interest-bearing
note dated the same day. On October 15, 19x7, LTW discounted the note at the Western Bank at 23% discount.
The customer paid the note at maturity. Based on a 360-day year, what amount should LTW report as net interest
revenue from the note transaction? 1 (D)
a. P975
c. P5,000.
b. P20,000.
d. P4,025.
RPCPA 1097
Comprehensive
Questions 204 through 206 are based on the following information.
Gleim
Flesher, Inc.'s credit manager studied the bill-paying habits of its customers and found that 90% of them were prompt.
She also discovered that 22% of the slow payers and 5% of the prompt ones subsequently defaulted. The company has
3,000 accounts on its books, none of which has yet defaulted.
96
. Calculate the total number of expected defaults, assuming no repeat business is on the horizon. (M)
A. 795
C. 135
B. 201
D. 66
97
. Given average revenues from sales of $1,200 and the cost of sales of $1,100, what is the average expected profit or
loss from extending credit to slow payers? (M)
A. $100 profit.
C. $220 loss.
B. $164 loss.
D. $264 loss.
98
. Given revenues from sales of $1,200 and the cost of sales of $1,100, what would the average level of revenues that
makes it worthwhile to extend credit to slow payers? (M)
A. $1,364.00
C. $1,410.26
B. $1,389.74
D. $1,510.26
SHORT-TERM CREDIT
Trade Credit
Cash Discount
*. On cash discounts, all of the following statements do not apply except (E)
a. If a firm buys P10,000 of goods on terms of 1/10, net 30 and pays within the discount period, the amount paid
would be P9,000.
b. The cost of not taking a cash discount is always higher than the cost of a bank loan.
c. With trade terms of 2/15, net 60, if the discount is taken the buyer receive 45 days of credit.
RPCPA
0597
d. The cost of not taking the discount is higher for terms of 2/10, net 60 than for 2/10, net 30.
Free Trade Credit
99
. Phillips Glass Company buys on terms of 2/15, net 30. It does not take discounts, and it typically pays 30 days after
the invoice date. Net purchases amount to $720,000 per year. On average, how much “free” trade credit does
Phillips receive during the year? (Assume a 360-day year.) (E)
a. $30,000
d. $60,000
b. $40,000
e. $70,000
c. $50,000
Brigham
1 26P100,000 x 20% x 90/360) = P5,000
P105,000 x 23% x 60/360) = 4,025
Net interest revenue
975
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Non-free Trade Credit
*. Bachoy & Co. buys on terms 2/10, net 30, but generally does not pay until 40 days after the invoice date. Its
purchases total P2,160,000 per year. Assuming 360 days a year, the amount of “non-free” trade credit used by the
company on the average each year is (M)
a. P180,000
c. P60,000
b. P240,000
d. P120,000
RPCPA 0595
100
. Phranklin Pharms Inc. purchases merchandise from a company that gives sales terms of 2/15, net 40. Phranklin
Pharms has gross purchases of $800,000 per year. What is the maximum amount of costly trade credit Phranklin
could get, assuming they abide by the suppliers credit terms? (Assume a 360-day year.) (M)
c. $54,444.50
a. $87,111.20
b. $32,666.70
d. $52,266.67
Brigham
Accounts Payable Balance
. Your firm buys on credit terms of 2/10, net 45, and it always pays on Day 45. If you calculate that this policy
effectively costs your firm $157,500 each year, what is the firm’s average accounts payable balance? (M)
a. $1,234,000
d. $625,000
b. $75,000
e. $750,000
Brigham
c. $157,500
101
Annual Nominal Rate
19. The cost of giving up a cash discount under the terms of sale 1/10 net 60 (assume a 360day year) is (E)
C. 14.7 percent.
A. 7.2 percent.
B. 6.1 percent.
D. 12.2 percent.
Gitman
20. The cost of giving up a cash discount under the terms of sale 5/20 net 120 (assume a 360day year) is (E)
A. 15 percent.
C. 15.8 percent.
B. 18.9 percent.
D. 20 percent.
Gitman
102
. Your company has been offered credit terms on its purchases of 4/30, net 90. What will be the nominal cost of trade
credit if your company pays on the 35th day after receiving the invoice? (E)
a. 30%
d. 87%
b. 300%
e. 156%
c. 3%
Brigham
22. If a company purchases merchandise on terms of 2/10, n/30, the cash discount available is equivalent to what
annual nominal rate of interest (assuming a 360-day year)?
a. 2%
c. 36%
b. 24%
d. 72%
K, W & W
103
. When a company offers credit terms of 2/10, net 30, the annual interest cost, based on a 360-day year, is (E)
A. 24.0%.
C. 36.0%.
B. 35.3%.
D. 36.7%.
CMA 0691 1-6, 0697 1-8
104
. When a company offers credit terms of 3/10, net 30, the annual interest cost based on a 360-day year is (E)
A. 36.7%
C. 37.1%
B. 24.5%
D. 55.6%
Gleim
105
. If a firm's credit terms require payment within 45 days but allow a discount of 2% if paid within 15 days (using a 360day year), the approximate cost or benefit of the trade credit terms is (E)
A. 2%.
C. 48%.
B. 16%.
D. 24%.
CMA 0692 1-23
*.
If a firm purchases raw materials from its suppliers on a 2/10, n/60 cash discount basis, the equivalent annual
interest rate (using a 360-day year) of foregoing the cash discount and making payment on the 60th day is (E)
a. 36.7%
c. 73.5%
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b. 14.7%
d. 12.2%
RPCPA 0596
106
. If a firm purchases raw materials from its supplier on a 2/10, net 40, cash discount basis, the equivalent annual
interest rate (using a 360-day year) of forgoing the cash discount and making payment on the 40th day is (E)
A. 2%
C. 24.49%
B. 18.36%
D. 36.72%
Gleim
107
. Using a 360-day year, what is the opportunity cost to a buyer of not accepting terms 3/10, net 45? (E)
A. 55.67%
C. 22.27%
CMA 0694 1-20, 1294 1-18
B. 31.81%
D. 101.73%
*.
Mamimili, Inc. purchased an item on credit with terms of 3/10, n/45. Based on a 360-day year, the company’s
annual interest cost of foregoing the cash discount and making payment on the last day of the credit period is (E)
a. 24.00%
c. 24.74%
b. 31.81%
d. 30.86%
RPCPA 1095, 1096
108
. Richardson Supply has a $100 invoice with payment terms of 2/10, net 60. Richardson can either take the discount
or place the funds in a money market account paying 6% interest. Using a 360-day year, Richardson's cost of not
taking the cash discount is (M)
A. 12.2%.
C. 6.4%.
B. 8.7%.
D. 6.2%.
CMA 0687 1-28
109
. What effective interest rate is charged to a purchaser receiving terms of 5/10, net 60 if the purchaser fails to take the
discount and pays in 60 days? (E)
A. 30.64%
C. 38.40%
B. 36.60%
D. 45.39%
Gleim
110
111
*.
. Dixie Tours Inc. buys on terms of 2/15, net 30. It does not take discounts, and it typically pays 35 days after the
invoice date. Net purchases amount to $720,000 per year. What is the nominal cost of its non-free trade credit? (E)
a. 17.2%
d. 36.7%
b. 23.6%
e. 50.6%
c. 26.1%
Brigham
. A firm is offered trade credit terms of 3/15, net 45. The firm does not take the discount, and it pays after 67 days.
What is the nominal annual cost of not taking the discount? (E)
a. 21.41%
d. 23.48%
b. 22.07%
e. 24.52%
c. 22.95%
Brigham
The official terms of purchases of U Tang & Co. are 2/10, net 30 but generally the company does not pay until 40
days after the invoice date. Its purchases total P3,600,000 per year. Assuming 360 days a year, the approximate
cost of the “non-free trade credit amounts to (M)
a. 18.36%
c. 21.90%
b. 24.50%
d. 19.40%
RPCPA 1095
46. If a firm purchases raw materials from its supplier on a 3/10, n/50 term, the approximate annual interest rate (using
360-day year) of giving up a cash discount and making payment on the 60th day is
a. 22.27. percent
c. 18.37 percent
b. 27.84 percent
d. 14.69 percent
Pol Bobadilla
*.
Three suppliers of Ma Corp. offer different credit terms. Core Co. offers terms of 1½ /15, net 30. Doug Corp. offers
terms of 1/10, net 30. Ernst Inc. offers terms of 2/10, net 60. Ma Corp. would have to borrow from a bank at an
annual rate of 12% in order to take any cash discounts. Which one of the following would be the most attractive for
Ma Corp. (Assume 360 days a year.) (M)
a. Purchase from Core Co., pay in 15 days and borrow any money needed from the bank.
b. Purchase from Core Co. pay in 30 days and borrow any money needed from the bank.
c. Purchase from Ernst Inc., pay in 60 days and borrow any money needed from the bank.
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d. Purchase from Doug Corp. and pay in 30 days.
RPCPA 0595
*.
Software Center, Inc.’s new controller is reviewing the company’s cash management. Below are relevant
information regarding trade credits from the suppliers of the company:
Suppliers
Average Monthly Purchases
Credit Terms
Tech Co.
P 100,000
Net 30
Computech
300,000
2/10, n/30
Compuwork
1,000,000
5/10, n/120
s
So-wares
600,000
3/10, n/45
The company uses a 360-day year. Assume that all of the suppliers can supply any and all of the requirements of
Software and can provide unlimited credit line to the company and that the company can have only one supplier.
With a cost of bank borrowing of 18% per annum, which supplier should Software choose? (D)
a. Compuworks due to the longest credit term of 120 days.
b. Computech due to cost of trade credit of 36.7%.
c. Compuworks due to the highest trade discount at 5%.
RPCPA 1096
d. Tech Co. due to no discount policy.
Effective Annual Rate
7. 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%
C. 102%
D. 18%
B&M
B. 20%
6. Suppose you purchase goods on terms of 5/10, net 30. Taking compounding into account, what annual rate of
interest is implied by the cash discount? (Assume a year has 365 days.)
A. 155%
C. 91%
B. 5%
D. 255%
B&M
5. Supposing you purchase goods on terms of 10/20, net 60. Taking compounding into account, what annual rate of
interest is implied by the cash discount? (Assume a year has 365 days.)
A. 91%
C. 250%
B. 139%
D. 162%
B&M
112
. Suppose the credit terms offered to your firm by your suppliers are 2/10, net 30 days. Out of convenience, your firm
is not taking discounts, but is paying after 20 days, instead of waiting until Day 30. You point out that the nominal
cost of not taking the discount and paying on Day 30 is around 37 percent. But since your firm is not taking
discounts and is paying on Day 20, what is the effective annual cost of your firm’s current practice, using a 360-day
year? (M)
a. 36.7%
d. 43.6%
b. 105.4%
e. 106.9%
c. 73.4%
Brigham
47. If a firm purchases raw materials from its suppliers on a 2/10, n/50 term, the equivalent annual effective interest
(using 360-day year) of continuously giving up a cash discount and making payment on the 50th day is
A. 14%.
C. 12.29%
B. 19.94%
D. 14.69%
Pol Bobadilla
113
. Hayes Hypermarket purchases $5 million in goods over a 1-year period from its sole supplier. The supplier offers
trade credit under the following terms: 2/15 net 45. If Hayes chooses to pay on time but not to take the discount,
what is the average level of the company’s accounts payable, and what is the effective cost of its trade credit?
(Assume a 360-day year.) (M)
a. $208,333; 17.81%
d. $625,000; 17.54%
b. $416,667; 17.54%
e. $625,000; 27.43%
c. $416,667; 27.43%
Brigham
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Weighted Average Annual Nominal Interest Rate
Questions 112 and 113 are based on the following situation.
CMA 1296 1-10 & 11
CyberAge Outlet, a relatively new store, is a café that offers customers the opportunity to browse the internet or play
computer games at their tables while they drink and dine. The customer pays a fee based on the amount of time spent
signed on to the computer. The store also sells books, tee-shirts, and computer accessories. CyberAge paying all of is
bills on the last day of the payment period, thus forfeiting all supplier discounts. Shown below are data on CyberAge’s
two major vendors, including average monthly purchases and credit terms.
Vendor
Average Monthly Purchases
Credit Terms
Webmaster
$25,000
2/10, net 30
Softidee
50,000
5/10, net 90
114
. Assuming a 360-day year and the CyberAge continues paying on the last day of the credit period, the company’s
weighted-average annual interest rate on trade credit (ignoring the effects of compounding) on these two vendors is
(D)
a. 27.0%
c. 28.0%
b. 25.2%
d. 30.2%
115
. Should CyberAge use trade credit and continue paying at the end of the credit period? (D)
a. Yes, if the cost of alternative short-term financing is less.
b. Yes, if the firm’s weighted-average cost of capital is equal to its weighted-average cost of trade credit.
c. No, if the cost of alternative long-term financing is greater.
d. Yes, if the cost of alternative short-term financing is greater.
BANK LOANS
Principal Amount
Discounted Loan
116
. Picard Orchards requires a $100,000 annual loan in order to pay laborers to tend and harvest its fruit crop. Picard
borrows on a discount interest basis at a nominal annual rate of 11 percent. If Picard must actually receive $100,000
net proceeds to finance its crop, then what must be the face value of the note? (E)
a. $111,000
d. $ 89,000
b. $100,000
e. $108,840
c. $112,360
Brigham
117
. Viking Farms harvests crops in roughly 90-day cycles based on a 360-day year. The firm receives payment from its
harvests sometime after shipment. Due in part to the firm’s rapid growth, it has been borrowing to finance its
harvests using 90-day bank notes on which the firm pays 12 percent discount interest. If the firm requires $60,000 in
proceeds from each note, what must be the face value of each note? (E)
a. $61,856
d. $68,182
b. $67,531
e. $67,423
c. $60,000
Brigham
Interest on Loan with Compensating Balance
*. The Manila Commercial Bank and Bank Rap Corp. signed a loan agreement subject to the following terms:
a. Stated interest rate of 18% on a one-year loan; and
b. 15% compensating non-interest bearing checking account balance to be maintained by Bank Rap with
Manila Commercial Bank.
The net proceeds of the loan was P1 million. The principal amount of the loans was (M)
a. P1,176,471
c. P1,492,537
b. P1,000,000
d. P1,219,512.
RPCPA 0595 adapted
Discounted Loan with Compensating Balance
*. The Manila Commercial Bank and Bank Rap Corp. signed a loan agreement subject to the following terms:
a. Stated interest rate of 18% on a one-year discounted loan; and
b. 15% compensating non-interest bearing checking account balance to be maintained by Bank Rap with
Manila Commercial Bank.
The net proceeds of the loan was P1 million. The principal amount of the loans was (M)
a. P1,176,471
c. P1,492,537
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b. P1,000,000
d. P1,219,512.
RPCPA 0595
Annual Interest Rate of One-year Loan
LIBOR-based Interest Rate
29. The interest rate on a loan is set at "1% over LIBOR." If the LIBOR rate is 5% then the interest rate on the loan is:
(E)
A. 5%
C. 6%
B. 4%
D. 7%
B&M
Simple Interest
A one year, $20,000 loan with a 10% nominal interest rate provides the borrower with the use of <List A> if interest
is charged on a <List B> basis. (E)
CIA 0595 IV-50
A.
B.
C.
D.
List A
$18,000
$20,000
$20,000
$22,000
List B
Simple
Simple
Discount
Discount
118
Annual Nominal Rate of Add-on Loan
119
. Coverall Carpets Inc. is planning to borrow $12,000 from the bank. The bank offers the choice of a 12 percent
discount interest loan or a 10.19 percent add-on, 1-year installment loan, payable in 4 equal quarterly payments.
What is the approximate (nominal) rate of interest on the 10.19 percent add-on loan? (E)
a. 5.10%
d. 20.38%
b. 10.19%
e. 30.57%
c. 12.00%
Brigham
Questions 1 & 2 are based on the following information.
Brigham
You have just taken out a loan for $75,000. The stated (simple) interest rate on this loan is 10 percent, and the bank
requires you to maintain a compensating balance equal to 15 percent of the initial face amount of the loan. You currently
have $20,000 in your checking account, and you plan to maintain this balance. The loan is an add-on installment loan
that you will repay in 12 equal monthly installments, beginning at the end of the first month.
120
. How large are your monthly payments? (E)
a. $6,250
b. $7,000
c. $7,500
d. $5,250
e. $6,875
121
. What is the nominal annual add-on interest rate on this loan?
a. 10.00%
d. 20.00% (E)
b. 16.47%
e. 24.00%
c. 18.83%
Effective Interest Rate of a Simple Interest with Compensating Balance
122
. If a firm borrows $500,000 at 10% and is required to maintain $50,000 as a minimum compensating balance at the
bank, what is the effective interest rate on the loan? (E)
A. 10.0%
C. 9.1%
B. 11.1%
D. 12.2%
CMA 1294 1-23
27. The bank offers you a term loan at 10% on condition that you maintain a 10% compensating balance. What is the
effective rate of interest?
A. 9.0%
C. 13.7%
B. 10.0%
D. 11.1%
B&M
36. A bank lends a firm $500,000 for one year at 8 percent and requires compensating balances of 10 percent of the
face value of the loan. The effective annual interest rate associated with this loan is
A. 8.9 percent.
C. 7.2 percent.
B. 8 percent.
D. 7.0 percent.
Gitman
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123
. FDR Corporation needs $5 million, and the company's bank has offered to make a loan at 10% annually, provided
the company maintains a 15% compensating balance. What is the effective cost of the loan? (E)
A. 10%
C. 16.67%
B. 11.76%
D. 17.65%
Gleim
124
. On January 1, Scott Corporation received a $300,000 line of credit at an interest rate of 12% from Main Street Bank
and drew down the entire amount on February 1. The line of credit agreement requires that an amount equal to 15%
of the loan be deposited into a compensating balance account. What is the effective annual cost of credit for this
loan arrangement? (E)
A. 11.00%
C. 12.94%
B. 12.00%
D. 14.12%
CMA Samp Q1-7
125
. Hagar Company’s bank requires a compensating balance of 20% on a $100,000 loan. If the stated interest on the
loan is 7%, what is the effective cost of the loan?(E)
a. 5.83%
c. 8.40%
b. 7.00%
d. 8.75%
CMA 0697 1-19
26. The bank offers you a term loan at 8% on condition that you maintain a 20% compensating balance. What is the
effective rate of interest?
A. 6.4%
C. 18.0%
B. 10.0%
D. 8.0%
B&M
28. The bank offers you a term loan at 11% on condition that you maintain a 20% compensating balance. What is the
effective rate of interest?
A. 13.8%
C. 9.7%
B. 11.0%
D. 8.8%
B&M
126
. The Dixon Corporation has an outstanding 1 year bank loan of $300,000 at a total interest rate of 8%. In addition,
Dixon is required to maintain a 20% compensating balance in its checking account, Assuming the company would
normally maintain zero balance in its checking account, the effective interest rate on the loan is (E)
a. 6.4%
c. 20.0%
CMA 1295 1-10
b. 8.0%
d. 10.0%
*.
The HIJ Company has an outstanding bank loan of P400,000 at an interest rate of 12%. The company is required
to maintain a 20% compensating balance in its checking account. What is the effective interest cost of the loan?
Assume that the company would not normally maintain this average amount? (E)
A. 8%.
C. 12%
B. 15%.
D. 10%
RPCPA 1001
Effective Interest Rate of a Simple Interest with Interest-earning Compensating Balance
21. On January 1, 2001, Olin Company borrows $2,000,000 from National Bank at 12% annual interest. In addition, Olin
is required to keep a compensatory balance of $200,000 on deposit at National Bank which will earn interest at 4%.
The effective interest that Olin pays on its $2,000,000 loan is
a. 10.0%.
c. 12.0%.
b. 11.6%.
d. 12.8%.
K, W & W
127
. A company obtained a short-term bank loan of $250,000 at an annual interest rate of 6%. As a condition of the loan,
the company is required to maintain a compensating balance of $50,000 in its checking account. The company’s
checking account earns interest at an annual rate of 2%. Ordinarily, the company maintains a balance of $25,000 in
its checking account for transaction purposes. What is the effective interest rate of the loan? (D)
a. 6.44%
c. 5.80%
b. 7.00%
d. 6.66%
CMA 0696 1-11, 0697 1-19
128
. A company obtained a short-term bank loan of $500,000 at an annual interest rate of 8%. As a condition of the loan,
the company is required to maintain a compensating balance of $100,000 in its checking account. The checking
account earns interest at an annual rate of 3%. Ordinarily, the company maintains a balance of $50,000 in its
account for transaction purposes. What is the effective interest rate of the loan? (D)
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a. 7.77%
b. 8.22%
*.
c. 9.25%
d. 8.56%
CMA 0694 1-21
Bal and Subas obtained a short-term bank loan for P1 million at an annual interest of 12%. As a condition of the
loan, the company is required to maintain a compensating balance of P200,000 in its savings account which earns
interest at an annual rate of 6%. The company would otherwise maintain only P100,000 in the savings account for
transactional purposes. The effective cost of the loan is (D)
a. 13.20%
c. 12%
b. 12.67%
d. 13.5%
RPCPA 1095
Effective Interest Rate of Discount
. Elan Corporation is considering borrowing $100,000 from a bank for 1 year at a stated interest rate of 9%. What is
the effective interest rate to Elan if this borrowing is in the form of a discounted note? (E)
A. 8.10%
C. 9.81%
B. 9.00%
D. 9.89%
CMA 1295 1-11
129
130
. A company has just borrowed $2 million from a bank. The stated rate of interest is 10%. If the loan is discounted and
is repayable in one year, the effective rate on the loan is approximately (E)
A. 8.89%
C. 10.00%
Gleim
B. 9.09%
D. 11.11%
131
. Cincy Corp. is borrowing $1 million at 10% for a year on a discount basis with a bank. How much in funds are
available for use and what is the effective cost of interest? (E)
A. $1,000,000; 10.0%
C. $900,000; 10.0%
B. $1,000,000; 11.1%
D. $900,000; 11.1%
Gleim
132
. If a company borrows $30,000 from a bank for one year at a stated annual interest rate of 11%, but interest is
prepaid (a discounted loan), then what is the effective annual interest rate? (E)
A. 9.64%
C. 12.36%
B. 10.00%
D. 11.00%
Gleim
42. A firm arranges a discount loan at a 12 percent interest rate, and borrows $100,000 for one year. The stated
interest rate is _____ and the effective interest rate is _____.
A. 12.00 %; 12.00%
C. 12.00%; 13.64%
Gitman
B. 13.64%; 12.00%
D. 12.00%; 10.71%
Effective Annual Percentage Rate on a Discounted Rate with Compensating Balance
. An enterprise borrows funds from its bank for a one-year period. The bank charges interest at a nominal rate of 15%
per annum, on a discount basis, and requires a 10% compensating balance. The effective annual interest rate on
the loan is
A. 16.67%
C. 20.00%
B. 17.65%
D. 25.00%
CIA 1195 IV-52
133
134
. The Altmane Corporation was recently quoted terms on a commercial bank loan of 7% discounted interest with a
20% compensating balance. The term of the loan is 1 year. The effective cost of borrowing is (rounded to the
nearest hundredth) (M)
A. 8.75%.
C. 7.53%.
B. 9.41%.
D. 9.59%.
CMA 1289 1-21
*.
135
Cashy Co. got a recent quote on a commercial bank loan of 16% discounted rate with a 20% compensating
balance. The term of the loan is one year. The effective cost of borrowing is (M)
a. 19.05%
c. 22.85%
b. 20.00%
d. 25.00%
RPCPA 0596
. The Flesher Corporation was recently quoted terms on a commercial bank loan of 6% discounted interest with a
22% compensating balance. The term of the loan is 1 year. The effective cost of borrowing is (rounded to the
nearest hundredth) (M)
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A. 6.00%
B. 6.38%
C. 7.69%
D. 8.33%
Gleim
34. A bank lends a firm $1,000,000 for one year at 12 percent on a discounted basis and requires compensating
balances of 10 percent of the face value of the loan. The effective annual interest rate associated with this loan is
A. 12 percent.
C. 13.6 percent.
B. 13.3 percent.
D. 15.4 percent.
Gitman
Annual Interest Rate of Less Than One Year Loan
Effective Annual Interest Rate on Monthly Payment
136
. What is the effective annual interest rate on a 9% APR automobile loan that has monthly payments? (M)
A. 9%
C. 9.81%
Gleim
B. 9.38%
D. 10.94%
137
. A credit card account that charges interest at the rate of 1.25% per month would have an annually compounded rate
of and an APR of (M)
A. 16.08%; 15%
C. 12.68%; 15%
B. 14.55%; 16.08%
D. 15%; 14.55%
Gleim
Effective Interest Rate of a Simple Interest with Interest-earning Compensating Balance
. On July 1, 2001, Dichter Company obtained a $2,000,000 180-day bank loan at an annual rate of 12%. The loan
agreement requires Dichter to maintain a $400,000 compensating balance in its checking account at the lending
bank. Dichter would otherwise maintain a balance of only $200,000 in this account. The checking account earns
interest at an annual rate of 6%. Based on a 360-day year, the effective interest rate on the borrowing is (D)
a. 12%.
c. 13.33%.
d. 13.5%
AICPA 0587 I-32
b. 12.67%
138
Effective Interest Rate of a Discount
44. A firm has a line of credit and borrows $25,000 at 9 percent interest for 180 days or half a year. What is the effective
rate of interest on this loan if the interest is paid in advance?
A. 4.7 percent
C. 9.9 percent
B. 9.4 percent
D. 10.3 percent
Gitman
Effective Interest Rate of a Discounted Rate with Transaction Cost
. Corbin, Inc. can issue 3-month commercial paper with a face value of $1,000,000 for $980,000. Transaction costs
will be $1,200. The effective annualized percentage cost of the financing, based on a 360-day year, will be (D)
A. 8.48%.
C. 8.00%.
B. 8.66%.
D. 2.00%.
CMA 1290 1-28
139
140
. Randy, Inc. can issue 3-month commercial paper with a face value of $1,500,000 for $1,450,000. Transaction costs
will be $1,500. The effective annualized percentage cost of the financing, based on a 360-day year, will be (D)
A. 3.45%
C. 14.22%
B. 3.56%
D. 13.79%
Gleim
Effective Interest Rate of a Discount with Compensating Balance
124.Bye Company borrows from a bank a certain loan at a stated discount rate of 12% per annum. The bank requires
10% of loan as compensating balance in its new checking account. The loan is payable at the end of 6 months.
The effective interest rate of this loan is
A. 28.21%
C. 27.27%
B. 14.29%
D. 15.38%
Pol Bobadilla
Revolving Credit
Effective Rate of Simple Interest with Interest and Fee
141
. Inland Oil arranged a $10,000,000 revolving credit agreement with a group of small banks. The firm paid an annual
commitment fee of one-half of one percent of the unused balance of the loan commitment. On the used portion of
the loan, Inland paid 1.5 percent above prime for the funds actually borrowed on an annual, simple interest basis.
The prime rate was at 9 percent for the year. If Inland borrowed $6,000,000 immediately after the agreement was
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signed and repaid the loan at the end of one year, what was the total dollar cost of the loan agreement for one year?
(E)
a. $560,000
d. $900,000
b. $650,000
e. $675,000
c. $540,000
Brigham
Effective Rate of Simple Interest with Compensating Balance Requirement
. JWDavis.com has a revolving credit agreement with a bank. JWDavis.com can borrow up to $2 million at 10%
interest and is required to keep a 15% compensating balance on all borrowed funds. If the firm borrows $1.2 million
for the entire year, what is the effective cost of borrowing? (M)
A. 10.00%
C. 11.76%
B. 11.11%
D. 13.33%
Gleim
142
Interest Payment
23. If the interest rate on a line of credit is 12% per year, what is the quarterly interest payment on a loan of $10 million?
A. $1,200,000
C. $400,000
D. None of the above
B&M
B. $300,000
143
. The treasury analyst for Garth Manufacturing has estimated the cash flows for the first half of next year (ignoring
any short-term borrowings) as follows:
Cash (millions)
Inflows
Outflows
January
$2
$1
February
2
4
March
2
5
April
2
3
May
4
2
June
5
3
Garth has a line of credit of up to $4 million on which it pays interest monthly at a rate of 1% of the amount loaned.
Garth is expected to have a cash balance of $2 million on January 1 and no amount utilized on its line of credit,
approximately how much will Garth pay in interest during the first half of the year? (M)
a. Zero
c. $80,000
b. $61,000
d. $132,000
CMA 0697 1-15
Interest Payment
43. XYZ Corporation borrowed $100,000 for six months from the bank. The rate is prime plus 2 percent. The prime
rate was 8.5 percent at the beginning of the loan and changed to 9 percent after two months. This was the only
change. How much interest must XYZ corporation pay? (M)
A. $2,476
C. $18,212
B. $5,417
D. $21,500
Gitman
45. A firm arranged for a 120day bank loan at an annual rate of interest of 10 percent. If the loan is for $100,000, how
much interest in dollars will the firm pay? (Assume a 360day year.) (E)
A. $10,000
C. $3,333
B. $30,000
D. $1,000
Gitman
Commercial Paper
Annual Interest Rate
54. A firm issued $2 million worth of commercial paper that has a 90day maturity and sells for $1,900,000. The annual
interest rate on the issue of commercial paper is (E)
A. 5 percent.
C. 17 percent.
B. 10 percent.
D. 21 percent.
Gitman
Maturity Value
55. A firm has directly placed an issue of commercial paper that has a maturity of 60 days. The issue sold for $980,000
and has an annual interest rate of 12.24 percent. The value of the commercial paper at maturity is (E)
A. $19,992.
C. $999,992.
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B. $980,000.
D. $960,008.
Gitman
FINANCING ALTERNATIVES
Different Trade Credit Options
144
. Merkle, Inc. has a temporary need for funds. Management is trying to decide between not taking discounts from one
of their three biggest suppliers, or a 14.75% per annum renewable discount loan from its bank for 3 months. The
suppliers' terms are as follows:
Fort Co.
1/10, net 30
Riley Manufacturing Co.
2/15, net 60
Shad, Inc.
3/15, net 90
Using a 360-day year, the cheapest source of short-term financing in this situation is (D)
A. The bank.
C. Riley Manufacturing Co.
B. Fort Co.
D. Shad, Inc.
CMA 1283 1-25
Trade Credit vs. Bank Loan
Point of Indifference
. ABC Company finances all of its seasonal inventory needs from the local bank at an effective interest cost of 9%.
The firm’s supplier promises to extend trade credit on terms that will match the 9% bank credit rate. What terms
would the supplier have to offer (approximately)?
a. 2/10, n/60.
c. 2/10, n/90.
b. 2/10, n/100.
d. 3/10, n/60.
RPCPA 1001
Credit Term vs. Simple Interest
. A company has accounts payable of $5 million with terms of 2% discount within 15 days, net 30 days (2/15 net 30).
It can borrow funds from a bank at an annual rate of 12%, or it can wait until the 30th day when it will receive
revenues to cover the payment. If it borrows funds on the last day of the discount period in order to obtain the
discount, its total cost will be (M)
A. $51,000 less.
C. $100,000 less.
B. $75,500 less.
D. $24,500 more.
CIA 1192 IV-54
145
146
. A corporation is currently experiencing cash-flow problems and has determined that it is in need of short-term credit.
It can either use its trade credit on $100,000 of accounts payable with terms of 1/10, net 30 or a 30-day note with a
20% annual simple interest rate. Which is the best alternative, and what is its effective rate of interest (rounded to a
whole percentage and using a 360-day year)? (D)
CIA 1188 IV-54
A. The trade credit. Its effective rate is 10%. C. The note. Its effective rate is 17%.
B. The trade credit. Its effective rate is 20%. D. The note. Its effective rate is 20%.
147
. Every 15 days a company receives $10,000 worth of raw materials from its suppliers. The credit terms for these
purchases are 2/10, net 30, and payment is made on the 30th day after each delivery. Thus, the company is
considering a 1-year bank loan for $9,800 (98% of the invoice amount). If the effective annual interest rate on this
loan is 12%, what will be the net dollar savings over the year by borrowing and then taking the discount on the
materials? (D)
A. $3,624
C. $4,800
B. $1,176
D. $1,224
Gleim
148
. Quickbow Company currently uses maximum trade credit by not taking discounts on its purchases. Quickbow is
considering borrowing from its bank, using notes payable, in order to take trade discounts. The firm wants to
determine the effect of this policy change on its net income. The standard industry credit terms offered by all its
suppliers are 2/10, net 30 days, and Quickbow pays in 30 days. Its net purchases are $11,760 per day, using a 360day year. The interest rate on the notes payable is 10 percent and the firm’s tax rate is 40 percent. If the firm
implements the plan, what is the expected change in Quickbow’s net income? (VD)
a. -$23,520
d. +$37,728
b. -$32,160
e. +$62,880
c. +$23,520
Brigham
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Delayed Payment to Supplier or Discounted Interest
*. Budi Corp. intends to acquire a new equipment to increase its capacity. It is estimated to cost P2.4 million. A bank
loan can finance the acquisition at ten (10%) percent discounted interest. Alternatively, the company may just delay
payment to its suppliers. Presently, the company buys under terms of 2/10, net 40, but management believes
payment could be delayed 30 additional days, without penalty; that is payment could be made in 70 days.
Assuming 360 days a year, the company should (M)
a. Borrow since it is cheaper by 1.13% than delaying payment to suppliers.
b. Borrow since it is cheaper by 2.5% than delaying payment to suppliers.
c. Delay payments to suppliers since it would cost 12% as against bank loan of 10%.
d. Delay payment to suppliers since it does not cost anything.
RPCPA 0597
*.
Meals Etc. has been very successful. It is the newest fastfood outlet at the Greenbelt area of Makati featuring
ordinary Filipino food packed with banana leaves. After six months of operations, it needs to expand. The owner,
Mr. K. Eng estimates that P2.4 million will be required to put up another outlet in the Ortigas area.
Financing was offered by a friendly banker at 10 percent discounted interest. Alternatively, Mr. Eng is thinking of just
delaying payment to its suppliers. All his sales are on cash basis. The company purchases under terms of 2/10, net
40 but Mr. Eng believes that he could delay payments by another 30 days without any problem. This means
payment could be made in 70 days. Assuming 360 days a year, Meals Etc. should opt for (M)
a. Bank loan since its cost of 11.11% is cheaper than the cost of delaying payments of 12.24%
RPCPA
0597
b. Delaying payments since it has no cost compared to the 10% discounted bank interest.
c. Bank loan since its cost of 10% is cheaper than the cost of delaying payments of 12%.
d. Delaying payments since its cost is only 2% compared to 10% discounted bank interest.
Credit Term vs. Loan with Compensation Balance Requirement
Questions 137 and 138 are based on the following information.
CMA 0687 1-29 & 30
Morton Company needs to pay a supplier's invoice of $50,000 and wants to take a cash discount of 2/10, net 40. The
firm can borrow the money for 30 days at 12% per annum plus a 10% compensating balance.
149
. The amount Morton Company must borrow to pay the supplier within the discount period and cover the
compensating balance is (M)
A. $55,000.
C. $55,556.
B. $55,056.
D. $54,444.
150
. Assuming Morton Company borrows the money on the last day of the discount period and repays it 30 days later,
the effective interest rate on the loan is (M)
A. 12.00%.
C. 13.20%.
B. 13.33%.
D. 13.48%.
151
. A company will receive cash from sales in 1 year that can be used to pay for materials. The supplier will allow
payment in 1 year. If the company pays the supplier immediately, it will receive a 20% discount off the $100,000
purchase price, but it must borrow the full amount. A bank has offered the company three alternatives:
1. A 1-year loan at 18% with no other fees,
2. A 1-year loan at 15% with the provision that it maintains 20% of whatever amount it borrows as noninterestbearing compensating balances over the life of the loan, or
3. A guaranteed line of credit of $100,000 at 17% with the provision that the bank will collect a 1% fee on the
average amount of unused funds. The company expects to borrow no other funds. The company would
achieve the lowest cost of financing by (M)
A. Allowing the supplier to finance the materials and making payment at the end of 1 year.
B. Accepting the 1-year loan at 18% with no other provisions.
C. Accepting the 1-year loan at 15% with the compensating balance provisions.
D. Accepting the guaranteed line of credit at 17% with the fee required on the average amount of unused funds.
CIA 1186 IV-43
Questions 158 through 160 are based on the following information.
Gleim
Morton Company needs to pay a supplier's invoice of $60,000 and wants to take a cash discount of 2/10, net 40. The
firm can borrow the money for 30 days at 11% per annum with a 9% compensating balance. Assume a 360-day year.
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152
. The amount Morton Company must borrow to pay the supplier within the discount period and cover the
compensating balance is (M)
A. $60,000
C. $64,615
B. $65,934
D. $58,800
153
. Assuming Morton Company borrows the money on the last day of the discount period and repays it 30 days later,
the effective interest rate on the loan is (M)
A. 11%
C. 12.09%
B. 10%
D. 9.90%
154
. If Morton fails to take the discount and pays on the 40th day, what effective rate of annual interest is it paying the
vendor? (M)
A. 2%
C. 24.49%
B. 24%
D. 36.73%
Different Bank Loan Options
Simple Interest vs. Discount
19. To raise money for working capital, The Bigger Donut is considering a one-year loan from the Philtrust Bank. Two
alternatives are available;
Alternative 1: a P70,000, 15% note issued at face value.
Alternative 2: a P70,000, non-interest bearing note discounted at 15%.
The company plans to borrow on November 1, 1993 and the accounting period follows the calendar.
If you are asked by the Chief Executive Officer on the preferable alternative to take, assuming whatever difference is
material in amount and based on your knowledge of accounting for notes, what advise should you give the CEO of
The Bigger Donut? (M)
a. alternative 1
c. alternative 2
b. either alternative
d. Both alternatives
Discount
155
. Fonze is considering borrowing $100,000 from a bank for 1 year. This borrowing is in the form of a discounted note,
and he wants the effective interest rate to be between 11% and 12%. Which of the following bank(s) could Fonze
choose, if Bank 1 has a stated interest rate of 9%, Bank 2 has a stated interest rate of 9.5%, Bank 3 has a stated
interest rate of 10%, and Bank 4 has a stated interest rate of 10.5%? (M)
A. Bank 2 only.
C. Either Bank 1 or Bank 3.
B. Bank 3 only.
D. Either Bank 3 or Bank 4.
Gleim
Simple Interest with Compensation Balance
. Hagar Company is planning on purchasing a larger warehouse next year. Hagar has contacted four banks and
received information about loans of $100,000. Bank 1 requires a compensating balance of 20% and has a stated
interest rate of 7%. Bank 2 requires a compensating balance of 15% and has a stated interest rate of 8%. Bank 3
requires a compensating balance of 18% and has a stated interest rate of 7.5%. Bank 4 requires a compensating
balance of 0% and has a stated interest rate of 9%. The bank with the lowest effective loan cost is (M)
A. Bank 1.
C. Bank 3.
B. Bank 2.
D. Bank 4.
Gleim
156
Questions 87 and 88 are based on the following information.
Gleim
Burgers & Burgers' bank (Bank 1) has offered to lend the firm $5 million at an annual rate of 12%, provided the company
maintains a compensating balance of 25% is maintained. However, a competitor bank (Bank 2) offered a $5 million loan
at 15% annually with a 10% compensating balance.
157
. Which bank offers the better deal, expressed on an annual basis? (M)
A. Bank 1 is better by .7%.
C. Bank 2 is better by .7%.
B. Bank 1 is better by 3.0%.
D. Bank 2 is better by 2.0%.
158
. Which would be the better deal if the company usually keeps an average of $500,000 on deposit? (M)
A. Bank 1 by 0.9%.
C. Bank 2 by 1.0%.
B. Bank 1 by 3.0%.
D. Bank 2 by 0.9%.
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Lump Sum Payment vs. Installment Payment
159
. Roger Retailer sells $20,000 of merchandise to Bob Buyer. Bob offers Roger two payment options for the
merchandise. The first option is Bob will pay Roger $20,000 in a lump sum 1 year from the date of purchase. The
second option is Bob will pay Roger $750 every 2 weeks for 1 year, starting 2 weeks after the date of purchase (a
total of 26 bi-weekly payments). If Roger's relevant discount rate is 0.5% per bi-weekly period, which option should
Roger accept? (M)
A. Bi-weekly payments, as they have a higher present value by $675.
B. Either one, since they have the same present value.
C. The lump sum payment, as it has a higher present value by $500.
D. The lump sum payment, as it has a higher present value by $1,750.
Gleim
Factoring vs. Different Bank Loan Terms
Questions 139 through 142 are based on the following information.
CMA 1296 1-14 to 17
The Frame Supply Company has just acquired a large account and needs to increase its working capital by $100,000.
The controller of the company has identified the four sources of funds given below.
A. Pay a factor to buy the company’s receivables, which average $125,000 per month and have an average collection
period of 30 days. The factor will advance up to 80% of the face value of receivables at 10% and charge a fee of
2% on all receivables purchased. The controller estimates that the firm would save $24,000 in collection expenses
over the year. Assume the fee and interest are not deductible in advance.
B. Borrow $110,000 from a bank at 12% interest. A 9% compensating balance would be required.
C. Issue $110,000 of 6-month commercial paper to net $100,000. (New paper would be issued every 6 months.)
D. Borrow $125,000 from a bank on a discount basis at 20%. No compensating balance would be required.
Assume a 360-day year in all of your calculations.
160
. The cost of Alternative A is (M)
a. 10.0%
b. 12.0%
c. 13.2%
d. 16.0%
. The cost of Alternative B is (M)
a. 9.0%
b. 12.0%
c. 13.2%
d. 21.0%
161
162
. The cost of Alternative C is (M)
a. 9.1%
b. 10.0%
c. 16.2%
d. 20.0%
163
. The cost of Alternative D is (M)
a. 20.0%
b. 25.0%
c. 40.0%
d. 50.0%
ANSWER EXPLANATIONS
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1
. REQUIRED: The effect on net working capital of an increase in current assets and a decrease in current
liabilities.
DISCUSSION: (D) Working capital is the excess of current assets over current liabilities. An increase in current
assets or a decrease in current liabilities will increase working capital. Thus, net working capital increased by $170
($120 + $50)
2
. Answer (D) is correct. Working capital is the excess of current assets over current liabilities. An increase in
current assets or a decrease in current liabilities increases working capital. Thus, net working capital increased by
$190 ($130 + $60).
Answer (A) is incorrect because the decrease in current liabilities increases working capital. Answer (B) is incorrect
because net working capital increased by $190. Answer (C) is incorrect because net working capital increased by
$190.
3
. Answer (A) is correct. Working capital is the excess of total current assets (CA) over total current liabilities (CL).
Thus, working capital at the end of January equals 80,500 computed as follows:
CA*
CL*
Beginning working capital
70,000
Performed services on account
30,000
I
N
Purchased supplies on account
-0I
I
Consumed supplies
(4,000)
D
N
Purchased office equipment
(2,000)
D
N
Paid short-term bank loan
-0D
D
Paid salaries
(10,000)
D
N
Accrued salaries (3,500)
N
I
Working capital, end of January
80,500
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* N = no effect; I = increase; D = decrease
Answer (B) is incorrect because 78,500 ignores the consumed supplies, the cash purchase of office equipment, and
the accrued salaries. However, it incorrectly considers the supplies purchased on account and the repayment of the
short-term bank loan. Answer (C) is incorrect because 50,500 does not include the services performed on account.
Answer (D) is incorrect because 47,500 omits the services performed on account and accrued salaries but includes
the repayment of short-term loan.
4
. Answer (C) is correct. Net working capital equals current assets (cash, accounts receivable, inventories for this
company) minus current liabilities (accounts payable, notes payable, accrued wages). From January 1 to June 30,
the net working capital increased by $1,000,000 {[($4 + $4 + $10) - ($3 + $3 + $2)] - [($3 + $5 + $8) - ($2 + $4 +
$1)]}.
Answer (A) is incorrect because a decrease of $1,000,000 results from omitting inventories. Answer (B) is incorrect
because the difference between all assets and all liabilities stayed the same. Answer (D) is incorrect because an
increase of $2,000,000 results from omitting accrued wages.
5
. Answer (C) is correct. Given that current liabilities are $200 million and the current ratio (current assets ÷
current liabilities) is 1.70, current assets must be $340 million ($200 million x 1.70). If X amount of commercial paper
is issued, thereby increasing both current assets and current liabilities by X, and the new current ratio is the
contractual minimum of 1.40 to 1, the maximum amount of commercial paper that can be issued is $150 million.
($340 + X) current assets ÷ ($200 + X) current liabilities = 1.4
$340 + X = 1.4 ($200 + X)
$340 + X = 280 + 1.4X
$340 = $280 + .4X
$60 = .4X
X = $150
Answer (A) is incorrect because $80 million results in a current ratio of 1.50. Answer (B) is incorrect because $370
million results in a current ratio of 1.25. Answer (D) is incorrect because $280 million results in a current ratio of
1.29.
6
. Answer (B) is correct. If current liabilities are $250 million and the current ratio (current assets/current liabilities)
is 1.75, current assets must be $437.5 million ($250 x 1.75). Hence, if X amount of commercial paper is issued,
thereby increasing both current assets and current liabilities by X, the new current ratio (which cannot be less than
1.5) is $125 million.
($437.5 + X)/($250 + X) = 1.5
$437.5 + X = 1.5 ($250 + X)
$437.5 + X = $375 + 1.5X
$437.5 = $375 + .5X
$62.5 = .5X
X = $125
Answer (A) is incorrect because $375 million is the minimum amount of current assets required to keep the current
ratio at the floor level of 1.5. Answer (C) is incorrect because $562.5 million is the sum of the existing current assets
and $125 million. Answer (D) is incorrect because $437.5 million is the existing amount of current assets.
7
. Answer (B) is correct. If current liabilities are $200 million and the current ratio (current assets ÷ current
liabilities) is 2.2, current assets must be $440 million (2.2 x $200 million). If X amount of commercial paper is issued
to finance inventory (current assets), thereby increasing both current assets and current liabilities by X, the level of
current assets at which the new current ratio will be 2.0 is $480 million ($440 million + $40 million of commercial
paper).
($440 + X) ÷ ($200 + X) = 2.0
$440 + X = 2($200 + X)
$440 + X = $400 + 2X
$440= $400 + X
X = $40
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Answer (A) is incorrect because $20 million ignores the increase in current assets. This answer would be
appropriate if noncurrent assets were being financed. Answer (C) is incorrect because $240 million is the amount of
working capital both before and after the issuance of commercial paper. Answer (D) is incorrect because $180
million is a nonsense answer.
8.
9
Current ratio and inventory
Answer: b Diff: E N
With the numbers provided, we can see that Iken Berry Farms has a current ratio of 1.67 (CA/CL = $5/$3 = 1.67).
If notes payable are going to be raised to buy inventories, both the numerator and the denominator of the ratio will
increase. We can increase current liabilities $1 million before the current ratio reaches 1.5.
. REQUIRED: The maximum dividends consistent with a specified minimum current ratio.
DISCUSSION: (B) Before the dividend, total current assets equal $2,050,000 ($455,000 cash + $900,000
receivables + $650,000 inventory + $45,000 prepaid assets). Current liabilities total $900,000 ($285,000 accrued
liabilities+ $550,000 accounts payable + $65,000 current portion of long-term debt). The payment of the cash
dividend will not change current liabilities, so a current ratio of 2 to 1 requires that current assets be maintained at a
minimum of $1,800,000 (2 x $900,000). Thus, cash can decrease by $250,000 ($2,050,000 – $1,800,000). The
maximum per share rate is $2.50 ($250,000 ÷ 100,000 shares).
Answer (A) is incorrect because $2.05 fails to include prepaid assets (prepaid expenses) as current assets. Answer
(C) is incorrect because $3.35 fails to include the current portion of long-term debt as a current liability. Answer (D)
is incorrect because $3.80 fails to consider prepaid assets as a current asset and the current portion of long-term
debt as a current liability.
10 .
REQUIRED: The effect of plant expansion on working capital.
DISCUSSION: (B) Working capital is defined as current assets minus current liabilities. Working capital is
calculated as follows:
Current
Proposal
Cash
$ 100,000
$ 120,000
Accounts receivable
400,000
500,000
Inventory
380,000
480,000
Marketable securities
200,000
200,000
Total current assets
$1,080,000
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