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34) A major risk in using commercial paper for short-term financing is the inflexible repayment
schedule.
Topic: 18.4 Managing Current Liabilities
Keywords: commercial paper
Principles: Principle 3: Cash Flows Are the Source of Value
35) Prior to establishing trade credit, the firm is required to make extended formal agreements
with the company.
Topic: 18.4 Managing Current Liabilities
Keywords: trade credit
Principles: Principle 3: Cash Flows Are the Source of Value
36) Lines of credit often require that the borrower maintain a minimum balance in the bank
throughout the loan period.
Topic: 18.4 Managing Current Liabilities
Keywords: line of credit
Principles: Principle 3: Cash Flows Are the Source of Value
37) Trade credit provides one of the most flexible sources of short-term financing available to the
firm.
Topic: 18.4 Managing Current Liabilities
Keywords: trade credit
Principles: Principle 3: Cash Flows Are the Source of Value
38) Commercial paper is an unsecured form of credit.
Topic: 18.4 Managing Current Liabilities
Keywords: commercial paper
Principles: Principle 3: Cash Flows Are the Source of Value
39) Lines of credit involve fixed rates of interest.
Topic: 18.4 Managing Current Liabilities
Keywords: line of credit
Principles: Principle 3: Cash Flows Are the Source of Value
30
40) Secured loans are those that are secured by the lender's faith in the ability of the borrower to
repay the funds when due.
Topic: 18.4 Managing Current Liabilities
Keywords: secured current liabilities
Principles: Principle 3: Cash Flows Are the Source of Value
41) Accrued wages and taxes provide sources of financing that rise and fall spontaneously with
the level of the firm's sales.
Topic: 18.4 Managing Current Liabilities
Keywords: spontaneous sources of financing
Principles: Principle 3: Cash Flows Are the Source of Value
42) Commercial paper offers the borrower the same flexibility that exists when bank credit is
used to meet financing needs.
Topic: 18.4 Managing Current Liabilities
Keywords: commercial paper
Principles: Principle 3: Cash Flows Are the Source of Value
43) Describe the differences between secured and unsecured short-term credit.
Topic: 18.4 Managing Current Liabilities
Keywords: secured current liabilities
Principles: Principle 3: Cash Flows Are the Source of Value
44) Discuss the advantages of using commercial paper.
Topic: 18.4 Managing Current Liabilities
Keywords: commercial paper
Principles: Principle 3: Cash Flows Are the Source of Value
31
45) Calculate the effective cost of the following trade credit terms if the discount is foregone and
payment is made on the net due date.
a. 2/15 net 30
b. 2/15 net 45
c. 2/15 net 60
Topic: 18.4 Managing Current Liabilities
Keywords: trade credit
Principles: Principle 3: Cash Flows Are the Source of Value
46) The U.R. Bloom Corporation established a line of credit with a local bank. The maximum
amount that can be borrowed under the terms of the agreement is $125,000 at a rate of 5%. A
compensating balance averaging 10% of the loan is required. If the firm needs $100,000 for six
months, what is the dollar cost of the loan and the annual percentage rate (APR)?
Topic: 18.4 Managing Current Liabilities
Keywords: annual percentage rate
Principles: Principle 3: Cash Flows Are the Source of Value
4.5%. What is the annual percentage rate on the loan?
Topic: 18.4 Managing Current Liabilities
Keywords: annual percentage rate
Principles: Principle 3: Cash Flows Are the Source of Value
32
48) The Smith Corporation has purchased $500,000 worth of inventory. The vendor offers terms
of 1/15 net 45. Unfortunately, Smith does not have enough cash available to take advantage of
the discount. It can borrow $500,000 from Wesson National Bank for 30 days at an annual
percentage rate of 6%. Should Smith forego the discount or pay within the discount period with
money borrowed from the bank?
Topic: 18.4 Managing Current Liabilities
Keywords: annual percentage rate
Principles: Principle 3: Cash Flows Are the Source of Value
49) Lightbulbs.com sells industrial and institutional lighting supplies through its website. It sells
directly to businesses and organizations such as universities and hospitals on terms of net 90. To
finance its rather large investments in receivables and inventory, the firm has an average need for
$2,000,000 in short-term loans. It is choosing between 3 alternative arrangements:
Converse Bank offers a 4.75% APR with interest and principal paid at the end of the year.
Guaranty Bank offers a rate of 4.5% with interest discounted at the time of the loan.
County Bank offers 4.25% with a 10% compensating balance.
Which bank offers the APR when all terms of the loan are considered? You may assume that
required amounts are borrowed for the full year.
Topic: 18.4 Managing Current Liabilities
Keywords: annual percentage rate
Principles: Principle 3: Cash Flows Are the Source of Value
50) The annual percentage rate (APR) on short-term loans from Bank A is 5.75% per year. Bank
B claims that their interest rate is only 5.44% per year. However, Bank B charges interest on a
discount basis. Which bank is charging the lowest APR on a one-year loan?
Topic: 18.4 Managing Current Liabilities
Keywords: annual percentage rate
Principles: Principle 3: Cash Flows Are the Source of Value
33
1) Which of the following is NOT a typical characteristic of money-market securities?
A) Little or no default risk
B) Liquid, easily bought and sold
C) Interest is not taxable at state or federal level
D) Maturities less than 1 year
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
2) A disadvantage involved in investing in marketable securities is that:
A) this reduces the risk of illiquidity.
B) this investment increases net working capital.
C) this investment offers a flexible means of financing.
D) these assets offer low rates of return, commensurate with their risk.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
3) "Float" is the term given to:
A) differences between the cash balance and the balance of cash plus marketable securities.
B) differences between the cash balance in the ledger and the funds available in the firm's
checking account.
C) the period between the date an invoice is received and the date on which it must be paid.
D) the practice of deliberately delaying payments beyond the due date.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
4) Typical securities in which firms invest their temporary cash surpluses include all of the
following EXCEPT:
A) U. S. Treasury Bills.
B) commercial paper.
C) high quality corporate bonds.
D) Money Market Mutual Funds.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
34
5) Which of the following would NOT typically be used for assessing customer quality for
purposes of granting trade credit?
A) Ratio analysis
B) Aging of accounts receivable
C) Credit scoring
D) Credit rating services
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: accounts receivable
Principles: Principle 2: There Is a Risk-Return Tradeoff
6) Accounts receivable typically comprise ________ of a firm's assets.
A) 25%
B) 50%
C) less than 1%
D) 10%
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: accounts receivable
Principles: Principle 2: There Is a Risk-Return Tradeoff
7) Which of the following terms would tend to minimize a firm's investment in accounts
receivable?
A) net 15
B) net 30
C) 1/15 net 45
D) 2/10 net 30
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: accounts receivable
Principles: Principle 2: There Is a Risk-Return Tradeoff
8) Management of a firm's liquidity involves management of the firm's investment in current
assets.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: liquidity
Principles: Principle 2: There Is a Risk-Return Tradeoff
35
9) When faced with a surplus of cash, most firms should stretch their trade accounts.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
10) T-bills and Treasury bonds are guaranteed by the full faith and credit of the United States and
are therefore default-free.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
11) A banker's acceptance is a draft drawn on a specific bank by an exporter in order to obtain
payment for goods that he has shipped to a customer who maintains an account with that specific
bank.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
12) A negotiable certificate of deposit (CD) is a marketable receipt for funds deposited in a bank.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
13) Although CDs are slightly more risky than Treasury bills, the yield is usually slightly less.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
14) If revenues can be forecast to fall within a tight range of outcomes, then the ratio of cash and
near-cash to total assets will be greater for the firm than if the prospective cash inflows might be
expected to vary over a wide range.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
36
15) Electronic funds transfer (EFT) could eventually eliminate the use of most checks and
minimize float.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
16) Commercial paper is a short-term, unsecured promissory note.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
17) One of the attractive features of commercial paper is an active secondary market.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
18) Marketable securities are near-cash assets because they can be converted into cash quickly.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
19) Investing in additional marketable securities and inventories creates higher profitability and
lower liquidity.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: cash and marketable securities
Principles: Principle 2: There Is a Risk-Return Tradeoff
20) The minimum level of inventory the firm plans to hold for the foreseeable future is a
temporary asset investment.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: inventories
Principles: Principle 2: There Is a Risk-Return Tradeoff
37
21) Briefly describe at least three useful tools for maintaining control over accounts receivable.
Topic: 18.5 Managing the Firm's Investment in Current Assets
Keywords: accounts receivable
Principles: Principle 2: There Is a Risk-Return Tradeoff
38
