Chapter 20, Problem 6P

Summary Introduction

Short term borrowing: When company borrows for a period of fewer than twelve months, it is termed as long-term financing. For example short-term loan.

Long-term financing: When a company borrows for a period of more than twelve months it is termed as long-term financing. Long-term financing is in the form of long-term loan and debentures.

Permanent working capital: Permanent working capital is the minimum level of investment that a firm requires in working capital. To maintain continuous operations a firm should keep this minimum amount invested in its short-term assets.

Temporary working capital: Temporary working capital is the difference between a firm’s permanent working capital requirement and the firms actual level of investment in the short term.

To Determine: The amount and period of maximum short-term borrowing if, the company holds $400 cash in each quarter.

• If company assumes that long-term financing will be used for permanent working capital and short-term borrowing for temporary working capital then maximum short-term borrowing will happen when working capital is highest in third quarter at $1300 (working note)

• The difference between highest working capital and permanent working capital will be short-term borrowing. In the third quarter, permanent working capital is $700 (working note) so, $600 will be short-term borrowing.
  
• The table below shows the period and amount of highest short-term borrowing.