Chapter 15

In light of the cost of capital, one area for managers to control ***________*** is working capital management

efficiency

Management of short-term **_____** __and short-term__ _____**__** to maximize financial results

Resource; obligations

The manager must ensure that there is **____________** on hand to meet the organization’s needs and also to minimize the **_______** of that cash

adequate cash; cost

Cash not immediately needed should be **_______**, earning a return for the organization

invested

Excess __**________**__ should be minimized

* The money spent on inventory that is not yet needed is NOT generating a return

inventory

If the organization __**____________**__ before they are due, it will also lose the time value of money

pay its bills

The most common short-term resources are:

• Marketable securities

• Accounts receivable

• Inventory

• ________

Cash

Cash is needed for normal daily transactions such as paying for **______________**

salaries and supplies

principal reason(s) that organizations want to keep some cash on hand or in their bank accounts:

* Although many activities can be **__________**, managers can never foresee everything that might happen

anticipated

principal reason(s) that organizations want to keep some cash on hand or in their bank accounts:

* It is a good idea to have it available if an attractive **___________** opportunity arises

investment

The purpose of a business is to generate returns on _________

* Cash earns a very low rate of return

investments

If we invest all of our cash in the business we would increase our returns – but then we wouldn’t have cash for ***_________*** and emergencies

transactions

At the other extreme, we can keep all our resources in cash, but then we wouldn’t earn _______________

high returns

Managers must find a middle ground, trying to keep enough _____ available, but not too much

cash

Cash ***______*** should be placed into interest-bearing accounts as soon as possible

receipts

There are a variety of alternative short-term investments that have the potential to earn a higher ***_____________*****_**, but there are trade-offs

rate of return

The two most common short-term investments are

• __________________ which offer low risk, low returns, and decreased liquidity (since there are often penalties for early withdrawal)

• __________________ which offer higher returns, higher risk, and greater liquidity

Certificates of deposit (CDs); Marketable securities (e.g. stocks and bonds)

A company should always attempt to collect accounts receivable as as ________ possible

• The purpose of a business is to generate returns on investments – the cash collection *is* the return

• The sooner we collect cash, the sooner we can re-invest it and earn __________________

quickly; more return

The ______ we allow an account receivable to be outstanding, the __***_______***__ the chances that it will ever be collected

* It is important to monitor unpaid receivables to minimize credit losses

longer; lower

Risk of selling on credit is possible ***___________*****_**, if we extend credit to a customer who does not pay

nonpayment

Companies establish credit policies to determine which customers ***____________________***

receive credit

Extending credit to less creditworthy customers increases the likelihood of ***______________***

credit loss

Set credit policy to ***_______*** gains

optimize

Careful management of inventory can also save money for the organization

• The purpose of a business is to generate returns on investments

• _______________ is *not* generating a return!

excess inventory

* Costs associated with inventory
* Purchase cost
* __***________***__ **costs** ***(from carrying too much inventory)***
* ***________*** **costs (from carrying too little inventory)**

carrying; ordering

Carrying costs

* Two categories: ______ cost and ___________ costs

capital; out-of-pocket

Capital cost: The ***_____*** __your level of inventory, the__ _____ you have paid out to suppliers, and the ***less*** money available to invest to generate returns

greater; more

• Rent on space where inventory is kept

• Insurance and taxes on the value of inventory

• Losses due to obsolescence

• Cost of annual inventory counts

• Costs of damage, loss, and theft

out-of-pocket

If we keep relatively little inventory on hand to keep carrying costs low, we will have to order inventory _________**_**

more often

• Cost of having employees place orders

• Shipping and handling charges for the orders

• Cost of correcting errors when orders are placed

Ordering costs

All of these ordering costs ________ in the frequency of placing inventory orders

increase

Too much inventory: ***_________*** use of capital, other out-of-pocket costs (e.g. inventory obsolescence)

inefficient

Too little inventory: risk that you ***_________*** of finished goods and lose out on sales, incur ordering costs

run out

More accuracy with **_*****_________*** decisions in order to reduce excess raw material inventories

purchasing

Improved ***_________________________*** to eliminate bottlenecks and work-in-process buildup

manufacturing processes

More accurate projections of ***_________*** to help optimize production of finished goods inventory

demand

The ***just-in-time (JIT)*** __inventory method aims to drive carrying costs to an__ _____________

* This is accomplished by having inventory arrive just as it is needed for every single step of production

Absolute minimum

____________:

Advantages: no storage costs, reduced handling costs, minimum breakage, and no need to pay for inventory before you need it

Disadvantages: increased ordering and shipping costs, and the risk that production lines will be stopped if inventory doesn’t arrive just in time

Just-in-time (JIT)

As a general rule, managers should try to _______ payment of short-term obligations in order to keep money available to invest to generate returns

* However, this must be balanced against any negative consequences related to delayed payments

delay

Trade credit terms generally offer a ________ for prompt payment

discount

There is generally no __***_____________***__ with trade credit (i.e., on your **accounts payable**)

* But there is a cost to routinely delaying payments and harming your relationships with suppliers

interest charge

_________________ are incentives granted to buyers to encourage early payment

• Part of a supplier’s stated credit terms

• Stated as a percentage of the purchase price

Cash discounts

Should you pay early and take the discount?

• The implied annual rate of return is ____________

• If there is an interest penalty for late payments: yes

If there is no interest penalty: maybe…will your relationship with the supplier worsen if you pay late?

enormous

You are much more likely to get a loan if you establish a **____________________** with a bank

long term relationship

It provides an opportunity to show the bank that your organization has thought through its ________________ situation

* Ability to anticipate temporary cash needs before the cash is needed, and know when you’ll have a surplus

working capital

In exchange for ______ arrangements, many times banks require the organization to keep always keep a certain amount of money in the bank

credit