Foundations of Financial Management
16th Edition
ISBN: 9781259277160
Author: Stanley B. Block, Geoffrey A. Hirt, Bartley Danielsen
Publisher: McGraw-Hill Education
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Question
Chapter 6, Problem 6DQ
Summary Introduction
To explain:Â The significance of the long-term financing of temporary current assets that results in less risk and lower returns as compared to normal financing patterns.
Introduction:
Financing pattern:
The financing pattern represents the capital structure of the project organization and shows the composition of the components of finance.
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Why use short-term financing?
Cash flows from operations may not be sufficient for a firm to keep up with growth-related financing needs, or the firm may not be able to always generate enough cash flow to maintain a surplus of cash. Firms prefer to borrow now to fulfill their capital requirements through means of short-term financing or long-term financing. Both methods have their advantages and disadvantages.
The following statement identifies a possible characteristic of short-term financing.
A. Consider this case:
Short-term credit agreements are more restrictive than long-term credit agreements.
Identify whether the preceding statement is true or false.
This statement is false.
This statement is true.
B. Firms use a variety of short-term financing sources to support working capital. Use the descriptions in the following table to identify the short-term financing source.
Description
Short-Term Financing Source
Continually recurring…
An analyst at a company notes that its cost of debt is far below that of equity. He concludes that it is important for the firm to maintain the ability to increase its borrowing because if it cannot borrow, it will be forced to use more expensive equity to finance some projects. This might lead it to reject some projects that would have seemed attractive if evaluated at the lower cost of debt.
How do you balance the amount of equity and debt? Explain the significance of maintaining the ability to increase borrowing capacity for a company with a lower cost of debt compared to equity. How does this impact project evaluation and investment decisions, and what role does the concept of cost of capital play in such considerations?
Using Problem 1, if Hogwarts Corp.’s policy is to employ Aggressive financing policy, which of the following statement would best describe the policy employed?
a. all fixed asset and half of the permanent current assets was financed with long-term liabilities
b. all the fixed assets, permanent current assets and half of the temporary current assets was financed with long-term liabilities
c. all the fixed assets, and permanent current assets was financed with long-term liabilities
d. none of the above
2) Using Problem 1, how much is the temporary current assets needed during April?
Chapter 6 Solutions
Foundations of Financial Management
Ch. 6 - Prob. 1DQCh. 6 - Prob. 2DQCh. 6 - Prob. 3DQCh. 6 - Prob. 4DQCh. 6 - “The most appropriate financing pattern would be...Ch. 6 - Prob. 6DQCh. 6 - Prob. 7DQCh. 6 - Prob. 8DQCh. 6 - What are three theories for describing the shape...Ch. 6 - Since the mid-1960s, corporate liquidity has been...
Ch. 6 - Gary’s Pipe and Steel Company expects sales next...Ch. 6 - Prob. 2PCh. 6 - Tobin Supplies Company expects sales next year to...Ch. 6 - Antivirus Inc. expects its sales next year to be...Ch. 6 - Prob. 5PCh. 6 - Prob. 6PCh. 6 - Boatler Used Cadillac Co. requires $850,000 in...Ch. 6 - Biochemical Corp. requires $550,000 in financing...Ch. 6 - Sauer Food Company has decided to buy a new...Ch. 6 - Assume that Hogan Surgical Instruments Co. has...Ch. 6 - Assume that Atlas Sporting Goods Inc. has $840,000...Ch. 6 - Colter Steel has $4,200,000 in assets. Short-term...Ch. 6 - Prob. 13PCh. 6 - Guardian Inc. is trying to develop an asset...Ch. 6 - Lear Inc. has $840,000 in current assets, $370,000...Ch. 6 - Using the expectations hypothesis theory for the...Ch. 6 - Using the expectations hypothesis theory for the...Ch. 6 - Carmen’s Beauty Salon has estimated monthly...Ch. 6 - Prob. 19PCh. 6 - Eastern Auto Parts Inc. has 15 percent of its...Ch. 6 - Bombs Away Video Games Corporation has forecasted...Ch. 6 - Esquire Products Inc. expects the following...
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Similar questions
- Which of the following statements relating to working capital financing is not correct? A. A conservative policy uses long-term debt to finance non-current assets. B. Short-term debt is cheaper than long-term debt. C. An aggressive policy uses long-term debt to finance fluctuating current assets. D. Long-term debt is less risky that short-term debt.arrow_forwardCash flows from operations may not be sufficient for a firm to keep up with growth-related financing needs, or the firm may not be able to always generate enough cash flow to maintain a surplus of cash. Firms prefer to borrow now to fulfill their capital requirements through means of short-term financing or long-term financing. Both methods have their advantages and disadvantages. The following statement identifies a possible characteristic of short-term financing. Consider this case: Short-term loans usually have a lower cost than long-term loans. Identify whether the preceding statement is true or false. This statement is true and an advantage of short-term financing. This statement is false and a disadvantage of short-term financing. Firms use a variety of short-term financing sources to support working capital. Use the descriptions in the following table to identify the short-term financing source. Description Short-Term Financing Source…arrow_forwardWhich of the following statements is NOT CORRECT? A. Although short-term interest rates have historically averaged less than long-term rates, the heavy use of short-term debt is considered to be an aggressive strategy because of the inherent risks associated with using short-term financing B. A company may hold a relatively large amount of cash and marketable securities if it is uncertain about its volume of sales, profits, and cash flows during the coming year C. The cash budget is useful to help estimate future financing needs, especially the need for short-term working capital loans. D. If a firm wants to generate more cash flow from operations in the next month or two, it could change its credit policy from 2/10, net 30 to net 60.arrow_forward
- Which of the following is incorrect about the Pecking Order Theory? A.Firms with high ratios of fixed assets to total assets tend to have higher debt ratios.This evidence exclusively supports the pecking order theory B.When external finance is required,firms issue debt first and equity as a last resort C.Most profitable firms borrow less not because they have lower target debt ratios but beause they don't need external finance D.Firms prefer internal finance since funds can be raised without sending adverse signalsarrow_forwardForecasting a firm's future sales is the key element in developing a financial plan, yet forecasting can be extremely difficult in some industries. If forecast is very poor, does this mean that the financial planning process if not worthwhile? Explain your answer.arrow_forwardWhich of the following statements are incorrect regarding how much debt a company should borrow? Choose all that apply. Question 9 options: A As long as the company can generate higher returns on its new projects than its borrowing interest rate, borrowing more debt will enhance the company's ROE. B Borrowing more debt will increase a company's distress level. C The bigger the company, the more it should borrow D Debt is considered a more expensive capital source.arrow_forward
- Given that a firm is well within its current ratio and debt ratio covenants and that interest rates are expected to decrease, would the firm prefer to use short or long-term financing for its external needs and why?arrow_forwardWhy do companies often prefer debt financing to other forms of financing for capitalinvestments?a. Actually, they don't prefer debt financing. They usually try to use retainedearnings for capital investments.b. Because bond holders are happy to just break even on their bonds.c. Because the MARR all but guarantees the projects will return yields greater thanthe interest on the loans.d. Because debt interest is tax deductible, reducing significantly the actual cost ofborrowing money for projects.arrow_forwardWhy is the acid test ratio a more rigorous test of short-term solvency than the current ratio? A. The quick ratio eliminates prepaid expenses for the denominator.B. The quick ratio eliminates prepaid expenses for the numerator.C. The quick ratio eliminates inventories from the numerator.D. The quick ratio considers only cash and marketable investments as current assets.E. The quick ratio eliminates revenue from the numerator.arrow_forward
- Long-term debt financing can have a possibility of more funding but is more risky in terms of long-term payment of loans. Group of answer choices True Falsearrow_forwardIdentify the incorrect statement in connection to working capital management: A. Conservative financing policies use short-term funds to finance only part of fluctuating current assets. B. Long-term funds are more expensive and more risky than short-term funds . C. The objectives of working capital management are profitability and liquidity. D. Permanent current assets should be financed from long-term sources if a moderate policy is adopted.arrow_forwardIs this statement true or false? Please explain in detail As debt-financing is usually cheaper than equity financing, debt-financing will lower risk for transnational company.arrow_forward
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