Solutions to Chapter 19
Working Capital Management and Short-Term Planning
1. Cash a. b.
$2 million decline
$2,500 increase c. $5,000 decline d. Unchanged e. Unchanged f. $5 million increase
Net Working Capital
$2 million decline
Unchanged
Unchanged
$1 million increase
Unchanged
Unchanged
2. a. Long-term financing, total capital requirement, marketable securities b. Cash, cash, cash balance, marketable securities
3. a. Inventories of raw materials, work in progress, and finished goods increase and cash decreases (use of cash). b. Accounts receivable increase (use of cash). c. Decrease in assets (land), increase in cash (source of cash), and decrease in shareholders’ equity when the loss on the land is recognized. d. Shareholders’ equity decreases and cash decreases (use of cash). e. Retained earnings and cash decrease when the dividend is paid (use of cash). f. Long-term debt increases (source of cash), short-term debt decreases (use of cash).
4. Remember that the cash conversion cycle = inventory period + receivables period – accounts payable period. Notice from these answers that not all actions that shorten the cash conversion cycle are necessarily good for the firm, nor are all actions that lengthen the cash conversion cycle necessarily bad. The costs or benefits of the actions associated with changes in the cycle must also be considered. a. Lower inventory levels will reduce the inventory period and therefore the cash conversion cycle.
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191

b. The accounts payable period will fall, which will lengthen the cash conversion cycle. c. The accounts receivable period will fall, which will shorten the cash conversion cycle. d. The accounts receivable period will rise (since customers pay their bills more slowly), which will lengthen the cash conversion cycle.
5. The firm can use its new system to maintain lower inventory levels. This will reduce the inventory period and therefore the cash conversion cycle, and will reduce net working capital as well.
6. Accounts receivable period = Ошибка!
= 8.0 days
Inventory period =
Ошибка!
= 47.8 days
Accounts payable period =
Ошибка!
= 23.5 days
Cash conversion cycle = 8.0 + 47.8 – 23.5 = 32.3 days
7. The cash conversion cycle equals inventory period plus receivables period minus accounts payable period. a. The discount should induce some customers to pay cash. Accounts receivable, the receivables period, and the cash conversion cycle will fall.
b. Lower inventory turnover implies more days in inventory. The cash conversion cycle increases.
c. If the firm produces goods more quickly, inventory levels corresponding to work in progress will fall. Therefore, the inventory period and the cash conversion cycle fall.
d. If the accounts payable period falls, the cash conversion cycle will increase.
e. Because the goods are already ordered, inventory of finished product will fall relative to sales. Therefore the inventory period and the cash conversion cycle fall.
f. Inventory increases imply a longer inventory period and cash conversion cycle.
13. Month 3:
18,000 + (.5

90,000) + (.3

120,000) + (.2

100,000) = $119,000
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Month 4:
14,000 + (.5

70,000) + (.3

90,000) + (.2

120,000) = $100,000
15. The order is .75 times the following quarter’s sales forecast
Quarter Order
1 .75

360 = 270
2 .75

336 = 252
3 .75

384 = 288
4 .75

384 = 288
16. Since the first quarter’s sales forecast was $372, orders placed during the fourth quarter of the preceding year would have been .75

$372 = $279.
Quarter
1
2
3
Payment*
1/3

279 + 2/3

270 = 273
1/3

270 + 2/3

252 = 258
1/3

252 + 2/3

288 = 276
1/3

288 + 2/3

288 = 288 4
*Payment = (1/3)

previous period order + (2/3)

current period order
17. Quarter Collections*
1
2
3
2/3

336 + 1/3

372 = 348
2/3

372 + 1/3

360 = 368
2/3

360 + 1/3

336 = 352
2/3

336 + 1/3

384 = 352 4
*Collections = (2/3)

previous period sales + (1/3)

current period sales
18.
Sources of cash
Quarter
First Second Third Fourth
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Collections on accounts receivable
Uses of cash
Payments of accounts payable
Labour & administrative expenses
Interest on long-term debt
Total uses of cash
Net cash inflow
(= sources – uses)
19.
$348 $368
273 258
65 65
40 40
378 363
-$30 $ 5
Quarter
$352 $352
276
65
40
381
–$29
288
65
40
393
-$41
Cash at start of period
+ Net cash inflow
(from problem 18)
= Cash at end of period
Minimum operating cash balance
Cumulative short-term financing required (minimum cash balance minus cash at end of period)
26.
First
$40
–30
10
30
$20
Second
$10
+ 5
15
30
$15
Fiscal year ending 2005 ($ million) Sears Holding Corp.
Inventory turnover



14,601
(3,281


3,238)/2


Third Fourth
$15 -$14
-29 - 41
- 14
30
$44
- 55
30
$85


Wal-Mart.

215,493
(29,447


26,612)/2


Days to sell inventory
Receivable turnover
=4.48


(365/4.48)= 81.5

19,701
(646


301)/2


=7.69
( 365/7.69) = 47.5



286 , 103
( 1 , 715


1 , 254 ) / 2


Avg. collection period in days
A/C payables turnover = COGS/Avg. payable
= 41.607
(365/41.607)=



14 , 601
( 1 , 092


820 ) /
8.77
2


= 192.73
(365/192.73)



= 1.89
215 , 493
( 21 , 671


19 , 332 ) /
Accounts payable period in days
Cash Conversion Cycle
= 15.27
(365/15.3) =
66.4
23.9
= 10.52
(365/ 10.52)= 34.73
14.66
Let us look at the extent to which Walmart’s working capital will decline if its cash conversion cycle decreases by 1 day. Assuming we hold average collection period and accounts payable period constant by decreasing cash conversion cycle by 1 day
2


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we have to decrease days to sell inventory by 1 day (47.5 to 46.5 days). Actually, we could have changed any one of the other variables as well; we really need to hold two of the variables constant and change one of the variables.
365
215 , 493 x

26 , 612

46 .
5 → x

26 , 612

215 , 493
365


2

46 .
5

2 x

54 , 906 .
44

26 , 612

28 , 294 .
44
Therefore change in working capital = 29,447 - 28,294.44 =$1152.56 million or $
1.152 billion; Wal-mart’s working capital will fall by this amount.
Wal-Mart sales, net income and total assets per employee ratios have generally been increasing over the past five fiscal year. Sears Holding Corp. on the other hand, has been experiencing fluctuating ratios including a negative net income per employee ratio from 2000 to 2003 fiscal year. Wal-Mart per employee ratios in all three categories (sales, net income and total assets) are higher than corresponding
Sears ratios. Hence, Wal-Mart appears to have has greater efficiencies in terms of higher employee utilization.
Based on the efficiency and profitability ratios, it seems that the market responded more positively to Wal-Mart in comparison to Sears holding Corp. For example,
Wal-Mart has enjoyed relatively stable price –earnings ratios. Wal-Mart’s stock prices have remained relatively stable when compared with Sears.
27.
Sources of cash
Collections on current sales
February March April
Collections on accounts receivable
Total sources of cash
Uses of cash
$100
90
$190
$110 $ 90
100 110
$210 $200
Payments of accounts payable
Cash purchases
Labour and administrative expenses
Capital expenditures
Taxes, interest, and dividends
Total uses of cash
$ 30
70
30
100
10
$240
$ 40 $ 30
80
30
0
10
60
30
0
10
$160 $130
Net cash inflow (sources – uses) -$50 +$50 +$70
Cash at start of period $100 $ 50 $100
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+ Net cash inflow
= Cash at end of period
Minimum operating cash balance
Cumulative short-term financing required (minimum cash balance minus cash at end of period)
- 50 + 50 + 70
$ 50 $100 $170
$100 $100 $100
$ 50 $ 0 -$70
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197