Chapter 7: Current Asset ManagementPresentation Transcript
Chapter 7 Current Asset Management Copyright 2006. Based on Foundations of Financial Manage-ment by Stanley B. Block and Geoffrey A. Hirt, 11 th ed. (2005), on slides prepared by and copyright by McGraw-Hill/Irwin, and on work by John Kevin Doyle.
Chapter 7 - Outline
Current Asset Management.
Ways to Improve Collections.
Three Primary Variables of Credit Policy.
Level vs. Seasonal Production.
Economic Ordering Quantity.
Current Asset Management is essentially an extension of working capital management.
It is concerned with the current assets of a firm (cash, A/R, marketable securities, and inventory).
A financial manager needs to remember that the less liquid an asset is, the higher the required return.
Current Asset Management
The financial manager wants to keep cash balances to a minimum.
There are two reasons for holding cash:
for everyday transactions (main reason).
for precautionary needs (emergencies).
to speed up the inflow of cash (or improve collections) and
slow down the outflow of cash (or extend disbursements).
Also will attempt to “play the float”.
FIGURE 7-2 Expanded cash flow cycle
TABLE 7-1 The use of float to provide funds
TABLE 7-2 Playing the float
Ways to Improve Collections
– speeds up collection of A/R and reduces mailing time.
Electronic Funds Transfer (or Wire Transfer of Funds)
– a system where payments are automatically deducted from a bank account.
– when customers mail payment to a local post office box instead of to the firm.
FIGURE 7-3 Cash management network
Treasury Bills (T-Bills) and Notes.
Certificates of Deposit (CDs).
Eurodollar Certificates of Deposit.
Passbook Savings Accounts.
Money Market Funds.
FIGURE 7-6 An examination of yield and maturity characteristics
TABLE 7-3 Types of short-term investments
There are three things to consider in deciding whether to extend credit:
Terms of Trade.
Collection Policy. Measures of efficiency:
Average Collection Period.
Ratio of Bad Debts to Credit Sales.
Aging of Accounts Receivable.
Three Primary Variables of Credit Policy
TABLE 7-4 Dun & Bradstreet report
Inventory is divided into three categories:
Work in Progress (WIP) or Unfinished Goods.
There are two basic costs associated with inventory:
Level vs. Seasonal Production
producing the same (equal) amount each month.
inventory costs are higher.
operating costs are lower.
producing a different amount each month (based on the season).
inventory costs are lower.
operating costs are higher.
FIGURE 7-9 Determining the optimum inventory level
Economic Ordering Quantity
Economic Ordering Quantity (EOQ):
the optimal (best) amount for the firm to order each time.
occurs at the low point on the total cost curve.
the order size where total carrying costs equal total ordering costs (assuming no safety stock).
“extra” inventory the firm keeps in stock in case of unforeseen problems.
Inventory usage at a constant rate.
Order costs per order are constant.
Delivery time of orders is consistent and order arrives as inventory reaches zero.