Chapter 7 - Working capital

Question 1

What are the ruels of how to finance short and long term assets?

Answer 1

• Short Term assets → should be finanaced by short term funds (credit from suppliers / bank overdrefts)
• Long term assets → should be financed by long term funds (share capital / loans)

Question 2

What are the advantages and diadvanatges of short term finance?

Answer 2

Question 3

How do profitablity and liquidity contradict each other?

Answer 3

• Profitablity → long term growth and return to investors = generous crefit termson sales to encourage high sales meaning recievbables will be high.
• Liquidity → Short term survival = demands cash sales are made meaning recievables will be low

Question 4

1. What is the formula to calculate currentg ratio?
2. What does the anser indicate?

Answer 4

1. Current ratio = Current assets / current liabilities
2. A ratio of les than 1 indicates a business will struggle to pay its current liabilities.

Question 5

1. What is the formula for quick (or liquidity) ratio?
2. What does it indicate?

Answer 5

1. Quick ratio = (current assets - inventory) / current liabilities
2. A measure of a business’ ability to meet its short term commitnets due to the length of tme it has to term inventory into cash.

Question 6

Give the equations for the following in days…

1. Recievables collection period
2. Paybles payment period
3. Raw materials inventory holding period
4. WIP inventory holding period
5. Finished goods inventory holding periods

Answer 6

• The cycle can be messured in days, weeks or months.
• Use year end figures if averages are nit available.

Question 7

1. What is the working capital cycle?
2. How is it calculated?

Answer 7

1. The length of time between paying the purchase and recieving cash for the sale.
   2.

Question 8

What is the most common caused of liuidity problems?

Answer 8

Overtrading

• Occurs when a smallbusiness grows quickly but on a small capital base.
• Although profit is healthy they run out of cash.

Question 9

What are the possible cures of liquidity?

Answer 9

1. Inject further long term capital into a business
2. Raise cash by selling non essential assets
3. Slow growth rate of a business
4. Reduce the length of the cash operating cycle by having…

• lower levels of inventory
• faster collection of debt
• increase cash sales
• slower payment of debt to suppliers

Question 10

1. What is the ‘Economic Order Quantiy (EOG) model’?
2. What is the formula fo it?

Answer 10

1. A calculation of how much inventory to order each timeto minimise the cost affected by order size _{- <em>does not take into acount bulk discounts</em>}
   2.

Question 11

Detail the following inventory order control systems…

1. Re-order level
2. period review
3. ABC
4. Just in time
5. Perpetual inventory

Answer 11

1. A pre calculated order sixe when inventory falls bellow a predetermined level.
2. Regular inspections of inventory levels
3. Inspectors prioritse according to the importance of stock items
4. Give supplier the customer order book on a regular basis
5. Automatically genertaed by computer system.

Question 12

How is a cash budget prepeared?

Answer 12

Question 13

Using the following data calculate …… at the end of each month

1. The net surplis / deficit
2. The cash possition of the business

Answer 13

Question 14

Answer 14

50% cash sales made in the month of sale