Exam 3 lecture 1&2

Question 1

Factor that complicate cash flow

Answer 1

1. the business (pharmacy) usually buys inventory on credit
2. pharmacies frequently sell on credit
3. cash flows out of the business (pharmacy) to pay for expenses such as salaries, utilities & rent
   - making there no longer be a direct relationship between sales and cash

Question 2

purchasing inventory on credit

Answer 2

creates a time lag between the time inventory is received and the payment for it

Question 3

selling on credit

Answer 3

creates a time lag between the time merchandise is sold and payment is received

Question 4

cash used to cover salaries, utilities and rent

Answer 4

must come from the gross margin or the amount left over after the cost of inventory has been covered

Question 5

the basic means of improving cash flow include:

Answer 5

1. decrease the amount of cash invested in the pharmacy
2. slow the amount & rate of cash flowing out of the pharmacy
3. increase the amount & rate of cash flowing in

Question 6

6 ways to accomplish improving cash flow

Answer 6

• proper control of inventory
• maintenance of GM
• investment of idle cash
• proper control of accounts receivable
• delay of disbursements for accounts payable
• minimization of operating expenses

Question 7

carrying the proper inventory

Answer 7

1. has the effect of reducing the demand for cash
2. un-saleable inventory requires the same cash investment as saleable inventory
3. un-saleable inventory decreases inventory turn over & increases total inventory investment

Question 8

the 80/20 rule

Answer 8

• “80% of your inventory problems come from 20% of your inventory”
• “2-% of your inventory may account for 80% of sales”

Question 9

applying the 80/20 rule to inventory management

Answer 9

1. determine overall sales dollars produced by each category of items
2. start by breaking dollar sales into 3 categories: class A (80% dollars), class B (15% dollars), class C(5%)

Question 10

what becomes apparent after classification

Answer 10

a minority of the actual inventory creates the majority of the sales

Question 11

define shrinkage

Answer 11

merchandise lost through breakage or theft

Question 12

control shrinkage

Answer 12

• lost, stolen or broken merchandise must be paid for but generates no cash income
• shrinkage has a dramatic effect on cash flow

Question 13

maintain adequate GM

Answer 13

• emphasize high-margin products

- selection of third party contracts

Question 14

pharmacies can decrease product costs by

Answer 14

• taking cash discounts
• utilizing the lowest cost sources
• participating in buying groups

Question 15

what to do with idle cash?

Answer 15

invest it!

Question 16

liquidity

Answer 16

an investment that can be rapidly, readily and cheaply converted to cash

Question 17

negatives of accounts receivable (selling merchandise on credit)

Answer 17

• represents a substantial investment of cash
• amount of cash invested = amount of outstanding AR
• slows the rate of cash flow into the pharmacy that may not be received for weeks or months
• a % of outstanding debts may become uncollectible & be regarded as bad debt, permanently reducing payment for merchandise sold & reducing cash flow

Question 18

opportunity cost

Answer 18

the time that the pharmacy’s cash is tied up in AR or the time between when the sale is made and the customer pays the bill

Question 19

opportunity cost of the investment of cash in AR or credit program is =

Answer 19

the interest that could be earned in the next best investment

Question 20

minimizing AR

Answer 20

• carefully screen credit applicants
• send out bills promptly & regularly
• add a finance charge to overdue accounts
• follow up on overdue accounts

Question 21

managing accounts payable

Answer 21

• slow down payments to supplies, but pay soon enough to receive cash discounts, but no sooner
• purchases made after suppliers close the books, will extend payments the longest

Question 22

capital expenditures differ from ordinary expenditures in that they:

Answer 22

• usually involve very large sums of money
• are not as regularly recurring as are expenditures for payroll & inventory
• commit a firm to a long-term course of action which cannot be easily reversed
• involve large cash inflows * outflows over number of years

Question 23

factors affecting the decision to invest in non-current assets

Answer 23

• external pressures: include effects of competition, demand and technology
• internal pressures: a firms cost structure & management expectations

Question 24

types of investments

Answer 24

replacements
cost reduction
expansion
new products

Question 25

steps for capital budgeting decision process

Answer 25

1. ideas for projects developed 2. projects are classified by type of investment 3. expected future cash flows from a project are estimated (estimate outflows & inflows) 4. the riskiness inherent in the project appraised 5. financial value of proposed project is analyzed. projects are accepted when NPV>0 6. final step is a post-audit, which involves comparing actual results to predicted result

Question 26

borrowing is only worthwhile if

Answer 26

the return on the proposed project exceeds the cost of the borrowed funds

Question 27

lending is only worthwhile if

Answer 27

the return is at least EQUAL to that which can be obtained from alternative risk opportunities in the same risk class

Question 28

interest is determined by

Answer 28

- the receipt of money is preferred sooner rather than later - the risk of the capital sum being repaid - inflation

Question 29

a dollar in hand today is worth

Answer 29

more than a dollar to be received in the future bc if you had it now you could invest it & earn interest - "future value"

Question 30

future value

Answer 30

- the amount to be received at the end of one period | - i.e. 2000+(1+0.12)=$2240

Question 31

present value

Answer 31

the current value of specified amount to be received at some future date -i.e. 2240/(1+0.12)=$2000

Question 32

future value (FV) equation

Answer 32

FV=PV(1+i)^n

Question 33

present value (PV) equation

Answer 33

PV=FV/(1+i)^n PV=FVn(PVIFi,n)

Question 34

PVIF

Answer 34

present value interest factor (found in the table)

Question 35

net present value

Answer 35

method of adjusting the cash inflows and outflows for the time value of money so that they are comparable

Question 36

to calculate the net present value,

Answer 36

the business must choose a required rate of return (RRR) in order to know how to discount the cash inflows & outflows

Question 37

RRR

Answer 37

rate of return that an investment must earn to be financially attractive - as RRR increases, PV of cash flows in future years decreases

Question 38

RRR for a business should be

Answer 38

set equal to its cost of capital-debt & equity

Question 39

higher the risk of a project

Answer 39

the higher the required rate of return

Question 40

internal rate of return (IRR)

Answer 40

calculated by finding the interest rate at which the present value of the inflows from the investment is equal to the present value of the outflows