Untitled Quiz

Study Notes

Working capital management involves short-term assets (ST investments) and short-term liabilities (ST financing sources).
Net Working Capital (NWC) is calculated by subtracting current liabilities from current assets.
NWC represents the amount of current assets financed by long-term liabilities.

Defines target levels for each current asset account.
Determines how current assets will be financed.
Current liabilities used for working capital finance only those current assets specifically used to finance current assets.

Measures the time from payment for raw materials to the collection of accounts receivable from product sales.
CCC = (ICP + DSO) − DPO.
Inventory Conversion Period (ICP): Time to convert materials into finished goods and then sell them.
Days Sales Outstanding (DSO) / Receivables Collection Period: Average time to convert receivables to cash.
Days Payable Outstanding (DPO) / Payables Deferral Period: Average time between purchasing raw materials and labor and paying for them.

Accruals: Continually recurring short-term liabilities, like wages and taxes, that increase spontaneously with operations.
Accounts Payable / Trade Credit: Credit created when one firm buys on credit from another firm.
Short-Term Bank Loans: Typically have a maturity of 90 days or less.
- Promissory note specifies terms, including amount, interest rate, repayment schedule, collateral, and other agreements.
- A compensating balance of 10-20% of the loan amount may be required to be maintained in a checking account.

Line of credit (LOC): Specified maximum amount of funds available.
- Revolving LOC: Funds are committed.
- Commitment fee: Charged on the unused balance of a revolving credit agreement.
Commercial Paper: Unsecured short-term promissory notes issued by large, financially sound firms.
- Discounted financial instrument: Investors purchase for less than face value.
- Maturity is typically 270 days or less.
Secured Loans: Secured by short-term assets, especially accounts receivable and inventory.
- Loan is not for 100% of the asset's value.

Using rPER, compute the EAR and APR:

m = number of borrowing periods in one year

Example: Terms of 2.5/10 net 40.
- If the firm purchases products with an invoice price of $100, its effective price is $97.50 because it receives a $2.50 discount for paying on Day 10 of the billing cycle.
- If the firm pays on Day 40, it effectively pays $2.50 interest on a 30-day loan in the amount of $97.50.