Reference no: EM132484787

The Calgary Company is attempting to establish a current assets policy. Fixed assets are $600,000, and the firm plans to maintain a 50% debt-to-assets ratio. Calgary has no operating current liabilities. The interest rate is 10% on all debt. Three alternative current asset policies are under consideration: 40%, 50%, and 60% of projected sales. The company expects to earn 15% before interest and taxes on sales of $3 million. Calgary's effective federal-plus-state tax rate is 40%. What is the expected return on equity under each asset policy?

Problems

Problem 1) Williams & Sons last year reported sales of $10 million and an inventory turnover ratio of 2. The company is now adopting a new inventory system. If the new system is able to reduce the firm's inventory level and increase the firm's inventory turnover ratio to 5 while maintaining the same level of sales, how much cash will be freed up?

Problem 2) Medwig Corporation has a DSO of 17 days. The company averages $3,500 in credit sales each day. What is the company's average accounts receivable?

Problem 3) What is the nominal and effective cost of trade credit under the credit terms of 3/15, net 30?

Problem 4) A large retailer obtains merchandise under the credit terms of 1/15, net 45, but routinely takes 60 days to pay its bills. (Because the retailer is an important customer, suppliers allow the firm to stretch its credit terms.) What is the retailer's effective cost of trade credit?

Problem 5) A chain of appliance stores, APP Corporation, purchases inventory with a net price of $500,000 each day. The company purchases the inventory under the credit terms of 2/15, net 40. APP always takes the discount but takes the full 15 days to pay its bills. What is the average accounts payable for APP?

Problem 6) McDowell Industries sells on terms of 3/10, net 30. Total sales for the year are $912,500. Forty percent of customers pay on the 10th day and take discounts; the other 60% pay, on average, 40 days after their purchases.

a. What is the days sales outstanding?

b. What is the average amount of receivables?

c. What would happen to average receivables if McDowell toughened its collection policy with the result that all nondiscount customers paid on the 30th day?

Problem 7) Calculate the nominal annual cost of nonfree trade credit under each of the following terms. Assume that payment is made either on the discount date or on the due date.

a. 1/15, net 20

b. 2/10, net 60

c. 3/10, net 45

d. 2/10, net 45

e. 2/15, net 40

Problem 8) a. If a firm buys under terms of 3/15, net 45, but actually pays on the 20th day and still takes the discount, what is the nominal cost of its nonfree trade credit?

b. Does it receive more or less credit than it would if it paid within 15 days?

Problem 9) Grunewald Industries sells on terms of 2/10, net 40. Gross sales last year were $4,562,500 and accounts receivable averaged $437,500. Half of Grunewald's customers paid on the 10th day and took discounts. What are the nominal and effective costs of trade credit to Grunewald's nondiscount customers? (Hint:Calculate sales/day based on a 365-day year, then calculate average receivables of discount customers, and then find the DSO for the nondiscount customers.)

Problem 10) The D.J. Masson Corporation needs to raise $500,000 for 1 year to supply working capital to a new store. Masson buys from its suppliers on terms of 3/10, net 90, and it currently pays on the 10th day and takes discounts. However, it could forgo the discounts, pay on the 90th day, and thereby obtain the needed $500,000 in the form of costly trade credit. What is the effective annual interest rate of this trade credit?

Problem 11) The Zocco Corporation has an inventory conversion period of 60 days, an average collection period of 38 days, and a payables deferral period of 30 days. Assume that cost of goods sold is 75% of sales.

a. What is the length of the firm's cash conversion cycle?

b. If Zocco's annual sales are $3,421,875 and all sales are on credit, what is the firm's investment in accounts receivable?

c. How many times per year does Zocco turn over its inventory?

Problem 12) The Christie Corporation is trying to determine the effect of its inventory turnover ratio and days sales outstanding (DSO) on its cash flow cycle. Christie's sales last year (all on credit) were $150,000, and it earned a net profit of 6%, or $9,000. It turned over its inventory 7.5 times during the year, and its DSO was 36.5 days. Its annual cost of goods sold was $121,667. The firm had fixed assets totaling $35,000. Christie's payables deferral period is 40 days.

a. Calculate Christie's cash conversion cycle.

b. Assuming Christie holds negligible amounts of cash and marketable securities, calculate its total assets turnover and ROA.

c. Suppose Christie's managers believe the annual inventory turnover can be raised to 9 times without affecting sales. What would Christie's cash conversion cycle, total assets turnover, and ROA have been if the inventory turnover had been 9 for the year?