Working Capital, PowerPoint Show.ppt

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1、20 - 1CHAPTER 20Working Capital ManagementnAlternative working capital policiesnCash, inventory, and A/R managementnAccounts payable managementnShort-term financing policiesnBank debt and commercial paper20 - 2Basic DefinitionsnGross working capital: Total current assets.nNet working capital: Curren

2、t assets - Current liabilities.nNet operating working capital (NOWC): Operating CA Operating CL =(Cash + Inv. + A/R) (Accruals + A/P)(More)20 - 3nWorking capital management: Includes both establishing working capital policy and then the day-to-day control of cash, inventories, receivables, accruals,

3、 and accounts payable.nWorking capital policy:lThe level of each current asset.lHow current assets are financed.20 - 4Selected Ratios for SKISKI IndustryCurrent1.75x2.25xQuick0.83x1.20 xDebt/Assets58.76%50.00%Turnover of cash16.67x22.22xDSO (365-day basis)45.6332.00Inv. turnover4.82x7.00 xF. A. turn

4、over11.35x12.00 xT. A. turnover2.08x3.00 xProfit margin2.07%3.50%ROE10.45%21.00%Payables deferral30.0033.0020 - 5How does SKIs working capital policy compare with the industry?nWorking capital policy is reflected in a firms current ratio, quick ratio, turnover of cash and securities, inventory turno

5、ver, and DSO.nThese ratios indicate SKI has large amounts of working capital relative to its level of sales. Thus, SKI is following a relaxed policy.20 - 6Is SKI inefficient or just conservative?nA relaxed policy may be appropriate if it reduces risk more than profitability.nHowever, SKI is much les

6、s profitable than the average firm in the industry. This suggests that the company probably has excessive working capital.20 - 7 The cash conversion cycle focuses on the time between payments made for materials and labor and payments received from sales: Cash Inventory Receivables Payables conversio

7、n = conversion + collection - deferral . cycle period period periodCash Conversion Cycle20 - 8Cash Conversion Cycle (Cont.)CCC = + CCC = + 45.6 30CCC = 75.7 + 45.6 30CCC = 91.3 days.Days per yearInv. turnoverPayablesdeferralperiodDays salesoutstanding3654.8220 - 9Cash Management:Cash doesnt earn int

8、erest,so why hold it?n Transactions: Must have some cash to pay current bills.n Precaution: “Safety stock.” But lessened by credit line and marketable securities.n Compensating balances: For loans and/or services provided.n Speculation: To take advantage of bargains, to take discounts, and so on. Re

9、duced by credit line, marketable securities.20 - 10Whats the goal of cash management?nTo have sufficient cash on hand to meet the needs listed on the previous slide.nHowever, since cash is a non-earning asset, to have not one dollar more.20 - 11Ways to Minimize Cash HoldingsnUse lockboxes.nInsist on

10、 wire transfers from customers.nSynchronize inflows and outflows.nUse a remote disbursement account.(More)20 - 12nIncrease forecast accuracy to reduce the need for a cash “safety stock.”nHold marketable securities instead of a cash “safety stock.”nNegotiate a line of credit (also reduces need for a

11、“safety stock”).20 - 13Cash Budget: The Primary Cash Management ToolnPurpose: Uses forecasts of cash inflows, outflows, and ending cash balances to predict loan needs and funds available for temporary investment.nTiming: Daily, weekly, or monthly, depending upon budgets purpose. Monthly for annual p

12、lanning, daily for actual cash management.20 - 14Data Required for Cash Budget1. Sales forecast.2. Information on collections delay.3. Forecast of purchases and payment terms.4. Forecast of cash expenses: wages, taxes, utilities, and so on.5. Initial cash on hand.6. Target cash balance.20 - 15SKIs C

13、ash Budget for January and February Net Cash Inflows January FebruaryCollections$67,651.95$62,755.40Purchases44,603.7536,472.65Wages6,690.565,470.90Rent 2,500.00 2,500.00Total payments $53,794.31$44,443.55Net CF$13,857.64$18,311.8520 - 16Cash Budget (Continued) January FebruaryCash at start if no bo

14、rrowing$ 3,000.00 $16,857.64Net CF (slide 13) 13,857.64 18,311.85Cumulative cash$16,857.64 $35,169.49Less: target cash 1,500.00 1,500.00Surplus$15,357.64 $33,669.4920 - 17Should depreciation be explicitly included in the cash budget?nNo. Depreciation is a noncash charge. Only cash payments and recei

15、pts appear on cash budget.nHowever, depreciation does affect taxes, which do appear in the cash budget.20 - 18What are some other potential cash inflows besides collections?nProceeds from fixed asset sales.nProceeds from stock and bond sales.nInterest earned.nCourt settlements.20 - 19How can interes

16、t earned or paid on short-term securities or loans be incorporated in the cash budget?nInterest earned: Add line in the collections section.nInterest paid: Add line in the payments section.nFound as interest rate x surplus/loan line of cash budget for preceding month.nNote: Interest on any other deb

17、t would need to be incorporated as well.20 - 20How could bad debts be worked into the cash budget?nCollections would be reduced by the amount of bad debt losses.nFor example, if the firm had 3% bad debt losses, collections would total only 97% of sales.nLower collections would lead to lower surpluse

18、s and higher borrowing requirements.20 - 21SKIs forecasted cash budgetindicates that the companys cash holdings will exceed the targetedcash balance every month, except for October and November.nCash budget indicates the company probably is holding too much cash.nSKI could improve its EVA by either

19、investing its excess cash in more productive assets or by paying it out to the firms shareholders.20 - 22What reasons might SKI have for maintaining a relativelyhigh amount of cash?nIf sales turn out to be considerably less than expected, SKI could face a cash shortfall.nA company may choose to hold

20、 large amounts of cash if it does not have much faith in its sales forecast, or if it is very conservative.nThe cash may be there, in part, to fund a planned fixed asset acquisition.20 - 23Inventory Management:Categories of Inventory CostsnCarrying Costs: Storage and handling costs, insurance, prope

21、rty taxes, depreciation, and obsolescence.nOrdering Costs: Cost of placing orders, shipping, and handling costs.nCosts of Running Short: Loss of sales, loss of customer goodwill, and the disruption of production schedules.20 - 24Is SKI holding too much inventory?nSKIs inventory turnover (4.82) is co

22、nsiderably lower than the industry average (7.00). The firm is carrying a lot of inventory per dollar of sales.nBy holding excessive inventory, the firm is increasing its operating costs which reduces its NOPAT. Moreover, the excess inventory must be financed, so EVA is further lowered.20 - 25If SKI

23、 reduces its inventory, without adversely affecting sales, what effect will this have on its cash position?nShort run: Cash will increase as inventory purchases decline.nLong run: Company is likely to then take steps to reduce its cash holdings.20 - 26Accounts Receivable Management:Do SKIs customers

24、 pay more or less promptly than those of its competitors?nSKIs days sales outstanding (DSO) of 45.6 days is well above the industry average (32 days).nSKIs customers are paying less promptly.nSKI should consider tightening its credit policy to reduce its DSO.20 - 27n Cash Discounts: Lowers price. At

25、tracts new customers and reduces DSO.n Credit Period: How long to pay? Shorter period reduces DSO and average A/R, but it may discourage sales.Elements of Credit Policy(More)20 - 28nCredit Standards: Tighter standards reduce bad debt losses, but may reduce sales. Fewer bad debts reduces DSO.nCollect

26、ion Policy: Tougher policy will reduce DSO, but may damage customer relationships.20 - 29Does SKI face any risk if it tightens its credit policy?YES! A tighter credit policy maydiscourage sales. Some customersmay choose to go elsewhere if theyare pressured to pay their billssooner.20 - 30If SKI succ

27、eeds in reducing DSO without adversely affecting sales, what effect would this have on its cash position?nShort run: If customers pay sooner, this increases cash holdings.nLong run: Over time, the company would hopefully invest the cash in more productive assets, or pay it out to shareholders. Both

28、of these actions would increase EVA.20 - 31Is there a cost to accruals? Do firms have much control over amount of accruals?nAccruals are free in that no explicit interest is charged.nFirms have little control over the level of accruals. Levels are influenced more by industry custom, economic factors

29、, and tax laws.20 - 32What is trade credit?nTrade credit is credit furnished by a firms suppliers.nTrade credit is often the largest source of short-term credit, especially for small firms.nSpontaneous, easy to get, but cost can be high.20 - 33SKI buys $506,985 net, on terms of 1/10, net 30, and pay

30、s on Day 40. How much free and costly trade credit, and whats the cost of costly trade credit? Net daily purchases = $506,985/365 = $1,389.Annual gross purch. = $506,985/(1-0.01) =$512,10620 - 34Gross/Net BreakdownnCompany buys goods worth $506,985. Thats the cash price.nThey must pay $5,121 more if

31、 they dont take discounts.nThink of the extra $5,121 as a financing cost similar to the interest on a loan.nWant to compare that cost with the cost of a bank loan.20 - 35Payables level if take discount: Payables = $1,389(10) = $13,890.Payables level if dont take discount: Payables = $1,389(40) = $55

32、,560.Credit Breakdown: Total trade credit= $55,560 Free trade credit= 13,890 Costly trade credit= $41,67020 - 36Nominal Cost of Costly Trade CreditBut the $5,121 is paid all during the year, not at year-end, so EAR rate is higher.Firm loses 0.01($512,106) = $5,121 of discounts to obtain $41,670 inex

33、tra trade credit, sorNom = = 0.1229 = 12.29%.$5,121$41,67020 - 37Nominal Cost Formula, 1/10, net 40Pays 1.01% 12.167 times per year.%.29.121229. 01667.120101. 030365991periodDiscounttakenDays365%Discount1%DiscountrNomdays 20 - 38Periodic rate = 0.01/0.99 = 1.01%.Periods/year = 365/(40 10) = 12.1667.

34、EAR= (1 + Periodic rate)n 1.0= (1.0101)12.1667 1.0 = 13.01%.Effective Annual Rate, 1/10, net 4020 - 39Working Capital Financing PoliciesnModerate: Match the maturity of the assets with the maturity of the financing.nAggressive: Use short-term financing to finance permanent assets.nConservative: Use

35、permanent capital for permanent assets and temporary assets.20 - 40Years$Perm NOWCFixed AssetsTemp. NOWCLower dashed line, more aggressive.S-TLoansL-T Fin:Stock &Bonds,Moderate Financing Policy20 - 41Conservative Financing PolicyFixed AssetsYears$Perm NOWCL-T Fin:Stock &BondsMarketable SecuritiesZer

36、o S-Tdebt20 - 42What are the advantages of short-term debt vs. long-term debt?nLow cost- yield curve usually slopes upward.nCan get funds relatively quickly.nCan repay without penalty.20 - 43What are the disadvantages of short-term debt vs. long-term debt?nHigher risk. The required repayment comes q

37、uicker, and the company may have trouble rolling over loans.20 - 44Commercial Paper (CP)nShort term notes issued by large, strong companies. SKI couldnt issue CP-its too small.nCP trades in the market at rates just above T-bill rate.nCP is bought with surplus cash by banks and other companies, then held as a marketable security for liquidity purposes.