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5 Cards in this Set

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Impact on Current Ratio for paying off part of part Current Liabilities?
IF CR > 1, then paying off liabilities will increse the ratio.

If Current ration is < 1, then ration will stay same.
A consultant recommends that a company hold funds for the following two reasons:

Reason 1: cash needs can fluctuate substantially throughout the year.

Reason 2: opportunities for buying at a discount may appear during the year.

The cash balances used to address the reasons given above are correctly classified as:

Reason No. 1 Reason No. 2

A- speculative speculative
B- speculative precautionary
C- precautionary speculative
D- precautionary precautionary
C is correct

The three motives for holding cash are:

1. transactions motive to make payments,
2. speculative motive to take advantage of sudden opportunities, and
3. precautionary motive to maintain a safety cushion
Troy Toys is a retailer operating in several cities. The 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 the 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 DTC? Assume a 360-day year.

A- $125,000 or more
B- Any amount greater than $173
C- Any amount greater than $62,500
D- Any Amount
Each day that Troy Toys does not have their money in their possession costs them 0.02% in lost interest. A process that accelerates transfer of cash by 2 days earns 0.04% (2 days × 0.02%/day) in interest on that cash. If that process costs $25, what amount of cash would have to be transferred to earn at least $25 in interest to offset the cost? To answer this, we restate the simple formula for interest earned. Interest earned equals the principal times the interest rate. In this case, the principal is the transfer amount. This can be restated to be the transfer amount
(principal) equals the interest earned divided by the interest rate.

Transfer Amount (Principal) = Interest Earned/Interest Rate
Transfer Amount = $25 ÷ .0004, or $62,500

Therefore, a transfer amount of at least $62,500 would be necessary to justify a $25 expenditure to achieve the faster transfer.
A working capital technique which delays the outflow of cash is:

A- factoring.
B- a draft.
C- a lockbox system.
D- electronic funds transfer.
B is correct.


A technique that of cash is using a form of commercial paper similar to a check. The big difference between a check and a draft is that the check is payable on demand (on presentation to the issuer/payor's bank) whereas a draft must be transmitted to the issuer (the company making the payment) for approval and deposit of funds to cover it, which the funds may be collected by the payee.

Use of a lockbox system the (inflow) of cash. Electronic funds transfer the (inflow or outflow) of cash.

Factoring is a technique for obtaining cash from receivables prior to due date (by selling the receivables at a discount).
A company uses the following formula in determining its optimal level of cash.

C* = the square root of 2bT/i

Where: 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 on marketable securities is 6% per year. The company estimates that it will make cash payments of $12,000 over a 1-month period. What is the cash balance (rounded to the nearest dollar)?

A- $2,000
B- $3,464
C- $6,928
D- $12,000
There are two issues to be careful with in this question: the word and making certain the periods of time are consistent for all factors.
Simply calculating the optimal level of cash causes you to arrive at $6,928. This is the square root of 2 times the fixed cost ($10) times the total demand in one month ($12,000) divided by the interest rate (.06 ÷ 12). Of course you need to use the interest rate for one month,
not one year, because the applicable period of time is one month. The cash balance will be one-half of the optimal level of cash because
the balance will be used down to zero and will be replenished to the optimal level. The average of zero and $6,928 is the sum (0 + $6928) ÷ 2, or $3,464.