Chapter 15: Short Term Financial Management I. Operating Cycle a. Time from purchase of raw materials to collection of monies from sale of product b. Focus on physical production

presspetManagement

Nov 10, 2013 (3 years and 8 months ago)

86 views

Chapter 15: Short Term Financial Management


I.

Operating Cycle


a.

Time from purchase of raw materials to collection of monies from
sale of product


b.

Focus on physical production


c.

Cash Conversion Cycles


i.

Time from purchase of raw materials to collection of moni
es
from sale of product


ii.

Focus on time cash of tied up


1.

CCC = (Average Age Inventory + Average Collection
Period)

-

Average Payment Period


d.

Example


Page 451


Annual Sales


of $10,000,000

Expenses


75% of $10,000,000 up for 60 days in inve
ntory

Earnings

100% of $10,000,000 tied up for 40 days in accounts receivable

Materials


65% of $10,000,000 tied up for 35 days





Annual Data

Days in
Current
Cycle


Pro Rated
Annual Data

Inventory

$10,000,000


60

$1,250,000

Expenses

$ 7,500,
000


40

$1,111,111

Materials

$ 6,500,000

35

$ 473,958

Resources
Invested




$ 1,887,153


e.

Funding requirements for Cash Conversion Cycle


i.

Permanent and seasonal funding


Figure 15.2


1.

EX: large Christmas sales


ii.

Aggressive versus conservative strategi
es


1.

Aggressive relies on short term debt


2.

Conservative relies on longer term debt


f.

Strategies


i.

Inventory turnover


ii.

Collection of accounts receivable


iii.

Accounting


iv.

Pay accounts payable as slow as possible


II.

Inventory Management


a.

Goal


reduce average inventor
y age


b.

Different views of inventory


i.

Financial manager


keep them low


ii.

Marketing manager


keep them high


iii.

Production manager


keep raw materials inventory high


iv.

Purchasing manager


keep supplies high


c.

Inventory Management Techniques


i.

ABC system


1.

Divide

inventory into three groups most expensive to
least expensive


2.

Monitor Group A most intensely


3.

Group C uses two bin method


ii.

Economic Order Quantity Model


1.

Ordering costs


a.

Clerical costs of ordering and receiving
materials


2.

Carrying costs


a.

Storage costs

b.

In
surance

c.

Deterioration

d.

Financial cost


3.

Order costs decrease with size while carrying cost
increases


4.

Select order size to minimize order + carrying costs


iii.

Just in Time Systems


1.

No or little inventory in production pipeline


2.

Extensive computerized tracking


3.

Can be risky but tremendous cost savings


iv.

Materials Requirement Planning


1.

Computerize management system


2.

Works back from final product


3.

Traditional computerized method


4.

Basically, MRP is a calculation method geared toward
determining how much of which raw
materials are
required and roughly when they should be ordered to
fulfill a set of product orders. MRP generally consists
of four steps:


1. Bill of Materials Explosion
-

looking backward from
each product, determine which intermediates and raw
materials a
re required, and in what quantities.

2. Netting
-

compare the above quantities against
current inventory.

3. Lot Sizing
-

determine how the needed materials
will be purchased or produced.

4. Start Date Determination
-

based on cycle time
information, deter
mine

when each order should start
production.







III.

Account Receivable Management


a.

Credit Selection and Standards


i.

5 Cs of Credit


ii.

Credit scoring


1.

Rates credit worthiness using past default rates
applied to different personal or firm characteristics


iii.

Cred
it Standards


1.

Determines who get credit


2.

Extending credit more freely increases sales column


3.

But may cost in collection expenses and/or debt write
offs


b.

Credit Terms


i.

Terms of credit offered to customers


ii.

Easier terms more sales but more costs


iii.

30 days pa
yable is less expensive than 60 days payable


iv.

25% down is less expensive that 10% down


c.

Cash Discounts


i.

Make accounts receivable less expensive


ii.

Reduce sales revenue


d.

Credit monitoring


i.

Average age of account receivable


ii.

Sort accounts receivable by age


iii.

Co
llection techniques


Table 15.3





IV.

Management of Receipts and Disbursements


a.

Float


bills paid but not yet available to the firm


b.

Speeding up collection period


i.

Use modern electronic technology


c.

Slow down payments


i.

Pay bills only when due


ii.

Cash concentr
ation


new technology for automating bill
paying process


iii.

Zero balance account


1.

Only keep money needed for paying bills in checking


2.

Invest rest in short term debt to earn interest


V.

Current Liabilities Management


a.

Spontaneous liabilities


i.

Accruals


examp
le wages


1.

Typically not managed as a source of funds


ii.

Accounts payable


1.

Evaluate cash discount when offered


2.

Depends on the implied interest rate on the cash
discount compared to prevailing short term rates
available to the firm.


iii.

Sources of short term fin
ancing


1.

Bank loans


short term self liquidating loans


a.

Single payment notes


b.

Line of credit


i.

Operating restrictions

ii.

Compensating balance


iii.

Annual cleanup


c.

Revolving credit agreement


2.

Commercial paper


a.

Short term IOUs issued by a company


b.

From a few days to

9 months


3.

Secured Short Term Financing


a.

Secured loan has assets pledged as collateral


b.

Use of accounts receivable as collateral


i.

Sale of account receivable at a discount


c.

Use of inventory as collateral


i.

Floating inventory lien


1.

loan on inventory hard to c
ount


ii.

Trust receipt inventory loan


iii.

Warehouse Receipt Loan


1.

Inventory under control of neutral
agent