finance homework mcq with detail solutions

(21.7) Aging Schedule Answer: b Diff: M

[i]. Short Construction offers its customer’s credit terms of 2/10, net 30 days, while Fryman Construction offers its customer’s credit terms of 2/10, net 45 days. The aging schedules for each of the two companies’ accounts receivable are reported below:

Short Construction Fryman Construction

Age of Value of Percentage of Value of Percentage of

Account (Days) Account Total Value Account Total Value

0-10 $58,800 60% $ 73,500 50%

11-30 19,600 20 29,400 20

31-45 14,700 15 29,400 20

46-60 2,940 3 10,290 7

Over 60 1,960 2 4,410 3

Total Receivables $98,000 $147,000

Which company has the greatest percentage of overdue accounts and what is their percentage of overdue accounts?

a. Fryman; 50% overdue.

b. Short; 20% overdue.

c. Fryman; 30% overdue.

d. Fryman; 3% overdue.

e. Short; 40% overdue.

 [ii]. Your firm buys on credit terms of 2/10, net 45 days, and it always pays on Day 45. If you calculate that this policy effectively costs your firm $159,621 each year, what is the firm’s average accounts payable balance? (Hint: Use the nominal cost of trade credit and carry its cost out to 6 decimal places.)

a. $1,234,000

b. $ 75,000

c. $ 157,500

d. $ 625,000

e. $ 750,000

(21.8) EAR cost of trade credit Answer: e Diff: M

[iii]. 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 approximately 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 365-day year?

a. 36.7%

b. 105.4%

c. 73.4%

d. 43.6%

e. 109.0%

 [iv]. Hayes Hypermarket purchases $4,562,500 in goods over a 1-year period from its sole supplier. The supplier offers trade credit under the following terms: 2/15, net 50 days. 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 annual cost of its trade credit? (Assume a 365-day year.)

a. $208,333; 17.81%

b. $416,667; 17.54%

c. $416,667; 27.43%

d. $625,000; 17.54%

e. $625,000; 23.45%

 [v]. A firm is offered trade credit terms of 2/8, net 45 days. The firm does not take the discount, and it pays after 58 days. What is the effective annual cost of not taking this discount? (Assume a 365-day year.)

a. 21.63%

b. 13.35%

c. 14.90%

d. 15.89%

e. 18.70%

 [vi]. Phranklin Pharms Inc. purchases merchandise from a company that gives sales terms of 2/15, net 40 days. Phranklin Pharms has gross purchases of $819,388 per year. What is the maximum amount of costly trade credit Phranklin could get, assuming it abides by the supplier’s credit terms? (Assume a 365-day year.)

a. $88,000

b. $33,000

c. $55,000

d. $50,000

e. $44,000

 [vii]. C+ Notes’ business is booming, and it needs to raise more capital. The company purchases supplies from a single supplier on terms of 1/10, net 20 days, and it currently takes the discount. One way of getting the needed funds would be to forgo the discount, and C+’s owner believes she could delay payment to 40 days without adverse effects. What is the effective annual rate of stretching the accounts payable?

a. 10.00%

b. 11.11%

c. 11.75%

d. 12.29%

e. 13.01%

 [viii]. Allen Brothers is interested in increasing its free cash flow (which it hopes will result in a higher EVA and stock price). The company’s goal is to generate $180 million of free cash flow over the upcoming year. Allen’s CFO has made the following projections for the upcoming year:

· EBIT is projected to be $850 million.

· Gross capital expenditures are expected to total $360 million, and its depreciation expense is expected to be $120 million. Thus, its net capital expenditures are expected to total $240 million.

· The firm’s tax rate is 40 percent.

The company forecasts that there will be no change in its cash and marketable securities, nor will there be any changes in notes payable or accruals. Which of the following will enable the company to achieve its goal of generating $180 million in free cash flow?

b. Accounts receivable increase $470 million, inventory increases $230 million, and accounts payable increase $790 million.

c. Accounts receivable increase $470 million, inventory increases $230 million, and accounts payable increase $610 million.

d. Accounts receivable decrease by $500 million, inventory increases by $480 million, and accounts payable decline by $80 million.

e. Accounts receivable decrease by $400 million, inventory increases by $480 million, and accounts payable increase by $80 million.

f. Accounts receivable increase by $500 million, inventory increases by $100 million, and accounts payable decline by $480 million.

Tough:

 [ix]. Jordan Air Inc. has average inventory of $1,000,000. Its estimated annual sales are $10 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 days. The firm wants to decrease its cash conversion cycle by 10 days. It believes that it can reduce its average inventory to $863,000. Assume a 365-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 in its cash conversion cycle?

a. $ 101,900

b. $1,000,000

c. $ 136,986

d. $ 333,520

e. $ 0

 [x]. Dalrymple Grocers buys on credit terms of 2/10, net 30 days, and it always pays on the 30th day. Dalrymple calculates that its annual costly trade credit is $375,000. What is the firm’s average accounts payable balance? Assume a 365-day year.

a. $187,475

b. $374,951

c. $223,333

d. $562,426

e. $457,443

(21.8) Financial statements and trade credit Answer: d Diff: T

[xi]. 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 365-day 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?

a. -$23,520

b. -$31,440

c. +$23,520

d. +$38,448

e. +$69,888

Multiple Part:

(The following information applies to the next three problems.)

Callison Airlines is deciding whether to pursue a restricted or relaxed working capital investment policy. Callison’s annual sales are expected to total $3.6 million, its fixed assets turnover ratio equals 4.0, and its debt and common equity are each 50 percent of total assets. EBIT is $150,000, the interest rate on the firm’s debt is 10 percent, and the firm’s tax rate is 40 percent. If the company follows a restricted policy, its total assets turnover will be 2.5.
Under a relaxed policy, its total assets turnover will be 2.2.

 [xii]. If the firm adopts a restricted policy, how much will it save in interest expense (relative to what it would be if Callison were to adopt a relaxed policy)?

a. $ 3,233

b. $ 6,175

c. $ 9,818

d. $ 7,200

e. $10,136

 [xiii]. What is the difference in the projected ROEs between the restricted and relaxed policies?

a. 2.24%

b. 1.50%

c. 1.00%

d. 0.50%

e. 0.33%

 [xiv]. Assume now the company expects that if it adopts a restricted policy, its sales will fall by 15 percent, EBIT will fall by 10 percent, but its total assets turnover, debt ratio, interest rate, and tax rate will remain the same. In this situation, what is the difference in the projected ROEs between the restricted and relaxed policies?

a. 2.24%

b. 1.50%

c. 1.00%

d. 0.50%

e. 0.33%

Multiple Choice: Problems

Medium:

 [xv]. Wicker Corporation is determining whether to support $100,000 of its permanent working capital with a bank note or a short-term bond. The firm’s bank offers a two-year note for which the firm will receive $100,000 and repay $118,810 at the end of two years. The firm has the option to renew the loan at market rates. Alternatively, Wicker can sell 8.5 percent annual coupon bonds with a 2-year maturity and $1,000 par value at a price of $973.97. How many percentage points lower is the interest rate on the less expensive debt instrument?

a. 0.0%

b. 1.2%

c. 1.0%

d. 1.8%

e. 0.6%

Tough:

 [xvi]. Leiner Corp. is a retailer that finances its purchases with trade credit under the following terms: 1/10, net 30 days. The company plans to take advantage of the free trade credit that is offered. After all the free trade credit is used, the company can either finance the clothing purchases with a bank loan that has an effective rate of 10.1349 percent (on a 365-day year), or the firm can continue to use trade credit.

The company has an understanding with its suppliers that within moderation, it is all right to “stretch out” its payments beyond 30 days without facing any additional financing costs. Therefore, the longer it takes the company to pay its suppliers, the lower the cost of trade credit. How many days would the firm wait to pay its suppliers in order for the cost of the trade credit to equal the cost of the bank loan?

a. 30 days

b. 36 days

c. 40 days

d. 46 days

e. 48 days

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