• Conservative approach-
Under this approach the firm depends more on long term funds for its financial needs. The
financing of all the fixed assets, all permanent current assets and part of the temporary current
assets is through long term funds. During this period the firm invests extra capital in
marketable securities and profitability levels are low since long term sources are expensive.
• Aggressive approach-
Under this approach the firm uses more of short term financing. The firm will finance the
fluctuating current assets and some of the permanent current assets with short term financing.
This approach presents an increased risk of liquidity and cash flow problems but there is
potential profitability increase since short term finances are cheaper.
• Matching or hedging approach-
Under this approach there is an attempt to match the maturity of the capital with the maturity
of the asset i.e. expected life of the asset is marched with expected source of funds raised to
finance the assets. Long term funds will be matched with fixed assets and permanent current
assets, while short term funds will be used to finance the fluctuating current assets.
The profitability and liquidity risk are moderate; however there may be a challenge of exact
matching because of uncertainty on the expected life of the asset.
Kavungya answered the question on April 28, 2022 at 08:02
- Mapema Ltd. manufactures and sells a product called “Rugs”. The company sells the product to its customers on credit terms. The company is considering easing...(Solved)
Mapema Ltd. manufactures and sells a product called “Rugs”. The company sells the product to its customers on credit terms. The company is considering easing the debtors collection efforts so as to increase its profitability.
The following information relates to the company:
• Average number of units sold per year 72,000,000
• Selling price per unit sh. 32.
• Variable cost per unit is sh. 28.
• Annual fixed collection expenses sh. 60,000,000.
• Average collection period is 40 day.
By easing the collection efforts. Mapema Ltd. expects to save sh. 40,000,000 per annum in collection expenses. However, this will lead to an increase in bad debts from 1% to 2% od sales and the average collection period from 40 days to 58 days. Sales will also increase by 1,000,000 units per annum. The company’s required rate of return is 24%
Assume a 360 day year.
Required:
Advice Mapema Ltd. on whether it is worthwhile to ease the collection efforts.
Date posted: April 28, 2022. Answers (1)
- Chogoria Ltd., a manufacturing company, has applied for working capital finance from Zed Commercial Bank Ltd. The bank's manager has requested for a working capital...(Solved)
Chogoria Ltd., a manufacturing company, has applied for working capital finance from Zed Commercial Bank Ltd. The bank's manager has requested for a working capital estimate from the company. The company has provided you with the following data for the next financial year.
Required
(i) A statement showing the working capital estimate.
(ii) Assume that production is carried on evenly throughout the year and wages and overheads also accrue evenly.
Date posted: April 28, 2022. Answers (1)
- The working capital policy of any business entity must address the twin issues of the level of current assets and the manner in which these...(Solved)
The working capital policy of any business entity must address the twin issues of the level of current assets and the manner in which these current assets are financed.
Required:
In relation to the above statement, explain how business entities can adopt aggressive, moderate and conservative working capital policies.
Date posted: April 28, 2022. Answers (1)
- The following data relate to Store ltd, a manufacturing company.(Solved)
The following data relate to Store ltd, a manufacturing company.
Date posted: April 28, 2022. Answers (1)
- You are given the following financial statement information for Moto Ltd. for the year ended 31 December 2010:
Required;
The operating and cash conversion cycles assuming that...(Solved)
You are given the following financial statement information for Moto Ltd. for the year ended 31 December 2010:
Required;
The operating and cash conversion cycles assuming that the year has 360 days.
Date posted: April 28, 2022. Answers (1)
- Baren Ltd projects that cash outlays of Sh.45 million will occur uniformly throughout the year.
The company plans to meet its cash requirements by selling marketable...(Solved)
Baren Ltd projects that cash outlays of Sh.45 million will occur uniformly throughout the year.
The company plans to meet its cash requirements by selling marketable securities from its
portfolio. The expected return from the company's marketable securities is 8 per cent per annum,
and the cost per transaction of converting securities into cash is Sh.30.
Required
(i) The optimal cash balance
(ii) The average cash balance
(iii) The number of transfers between cash and marketable securities per year.
Date posted: April 28, 2022. Answers (1)
- The projected monthly working capital requirements for Chasimba Ltd. for the year ending 31 December 2012 is as follows:(Solved)
The projected monthly working capital requirements for Chasimba Ltd. for the year ending 31 December 2012 is as follows:
Date posted: April 28, 2022. Answers (1)
- The finance manager of Charisma Enterprises Ltd. has given the following financial estimates for the year ending 31 December 2012:
Raw materials are 80% of cost...(Solved)
The finance manager of Charisma Enterprises Ltd. has given the following financial estimates for the year ending 31 December 2012:
Raw materials are 80% of cost of sales which are all on credit.
Required:
The cash operating cycle.
Date posted: April 28, 2022. Answers (1)
- Bahari Ltd. has the standard deviation of its daily net cash flow estimated at Sh.68, 250. The company
maintains minimum cash balance Sh.500, 000. The company's...(Solved)
Bahari Ltd. has the standard deviation of its daily net cash flow estimated at Sh.68, 250. The company
maintains minimum cash balance Sh.500, 000. The company's transaction cost is Sh.360 from the
money marker. The rate interest for the marketable securities is 9.865% per annum. The company
uses the Miller-Oir model to set its target cash balance.
Assume 365 days a year.
Required:
(i) The company's return point.
(ii) Upper cash limit.
(iii) The average cash balance.
Date posted: April 28, 2022. Answers (1)
- The following information relates to the current trading operations of Dindiri Ltd.(Solved)
The following information relates to the current trading operations of Dindiri Ltd.
In an effort to improve the liquidity position of the company, the management proposed the following
strategies aimed at reducing its operating cycle.
Strategy A
To offer a 2% cash discount to customers who pay their accounts within 10 days. This will have the
following effects:
1. 50% of the cred it customers and all cash customer, will take advantage of the discount.
2. Annual sales the percentage of credit sales and the contribution to sales ratio will not change.
3. There will be savings in debt collection expenses of Sh 4,125,000 per month.
4. Bad debts will decrease to 20% of total credit sales.
5. The average collection period will be reduced to 32 days.
Strategy B
Contract the services of a factor at a cost of 2% of total credit sales while advancing Dindiri Ltd. 90%
of total credit sales invoiced at the end of each month at an interest rate of 1.5% per month.
The effects of this strategy will be:
1. No change in the level of annual sales proportion of cred it sales and contribution margin ratio.
2. Savings on debt administration expenses of Sh.2, 100,000 per month will result.
3. All bad debt losses will be eliminated.
4. The average collection period will drop to 20 days.
Required:
(i) Evaluate the financial benefits and Costs of each strategy (assume a 60 day year)
(ii) Advise the management of Dindiri Ltd. on the viable strategy to implement.
Date posted: April 28, 2022. Answers (1)
- Magas Ltd. is coThe relaxation in the debt collection effort is expected to increase sales by sh. 5. million, increase the
average collection period to 40...(Solved)
Magas Ltd. is considering relaxing its debt collection effort. The following data is provided for Magas Ltd.
The relaxation in the debt collection effort is expected to increase sales by sh. 5. million, increase the
average collection period to 40 days and raise the bad debt ratio to 0.06.
The company’s tax rate is 30%.
Assume 360 days in a year.
Required:
Assess the effect of relaxing the debt collection effort on the net profit of Magas Ltd.
Date posted: April 28, 2022. Answers (1)
- The current credit terms of Fredcom Ltd. are 2/15- net 45 days. The company's total annual sales are Sh.200 million with an average collection period...(Solved)
The current credit terms of Fredcom Ltd. are 2/15- net 45 days. The company's total annual sales are Sh.200 million with an average collection period of 30 days. Variable cost is 80% of the annual sales. 50% of customers take advantage of the current discount. The company is considering relaxing its discount terms to 3/15 net 45 days. This relaxation of discount terms is expected to increase annual sales by Sh.10 million, reduce average collection period to 27 days and increase the proportion of customers who will take advantage of the discount to 60%. The company's cost of capital is 12%.
Corporate tax rate is 30%.
Assume 360 days in a year.
Required:
Advise the management of Fredcom Ltd. on whether to relax its discount terms.
Date posted: April 28, 2022. Answers (1)
- The board of directors of Rand Mills Limited have requested you to prepare a statement showing the working capital requirements for a level of activity...(Solved)
The board of directors of Rand Mills Limited have requested you to prepare a statement showing the working capital requirements for a level of activity of 30,000 units of output for the year.
The cost structure for the company's product for the above mentioned activity level is given below:
Additional information:
1. Past experience indicates that raw materials are held in stock on average for 2 months.
2. Work in progress (100% complete in regard to materials and 50% for labour and overheads) will
be half a month's production.
3. Finished goods are in stock on average for 1 month.
4. Credit allowed to suppliers is 1 month.
5. Credit allowed to debtors is 2 months.
6. A minimum cash balance of Sh.250, 000 is expected to be maintained.
Required:
Prepare a statement of working capital requirements.
Date posted: April 26, 2022. Answers (1)
- Wanga Ltd. maintains a minimum cash balance of Sh. 1,500,000. The standard deviation of the daily cash is Sh.800, 000. The annual interest rate is...(Solved)
Wanga Ltd. maintains a minimum cash balance of Sh. 1,500,000. The standard deviation of the daily cash is Sh.800, 000. The annual interest rate is 12%. The transaction cost of buying and selling of marketable securities is Sh.200 per transaction. Assume
that one year has 365 days.
Required:
Using the Miller-Orr cash management model, determine:
i) The return point.
ii) Average cash balance.
iii) The upper cash limit.
Date posted: April 26, 2022. Answers (1)
- Discuss the conflicts that might arise among the objectives of working capital management.(Solved)
Discuss the conflicts that might arise among the objectives of working capital management.
Date posted: April 26, 2022. Answers (1)
- Aruna Ltd. is evaluating an investment project which requires the importation of a new machine at a cost of sh. 2,700,000. The machine has a...(Solved)
Aruna Ltd. is evaluating an investment project which requires the importation of a new machine at a cost of sh. 2,700,000. The machine has a useful life of six years.
Date posted: April 25, 2022. Answers (1)
- Widespread investment company Ltd. is planning to develop and market product “X”. Annual cash flows associated with the project are as follows:
The company will have...(Solved)
Widespread investment company Ltd. is planning to develop and market product “X”. Annual cash flows associated with the project are as follows:
The company will have the option to invest an additional sh. 1 billion at the end of the year 5 to
secure a national market. Annual net cash flow are expected to be sh. 600 million higher in each of the
years 6 to 10.
The company’s required return is 12%.
Assume the project is successful and all cash flows occur at the end of each year.
Required:
Compute:
i) Basic net present value (NPV) of the project without real options.
ii) Net present value (NPV) of the project with real option.
iii) What are your recommendations based on (i) and (ii) above?
Date posted: April 25, 2022. Answers (1)
- Briefly explain three types of real options available in capital investments decisions.(Solved)
Briefly explain three types of real options available in capital investments decisions.
Date posted: April 25, 2022. Answers (1)
- High Tec Electronics Ltd is considering the acquisition a new machine to replace existing machine
currently being used in the production of product “Q”.
The existing machine...(Solved)
High Tec Electronics Ltd is considering the acquisition a new machine to replace existing machine
currently being used in the production of product “Q”.
The existing machine was acquired 5 years\ ago at a cost of Sh.40; 000,000.The machine was
originally estimated to have a useful life of 10 years with a nil salvage value at the end of its useful
life. However, following a revaluation of the machine, it is now estimated that the machine can be
used for another 15 years with a salvage value of sh.5,000,000.The current disposal value of the
machine is sh.30,000,000.
The new machine is estimated to cost sh.100, 000,000.The Company will incur an installation cost of
sh.20, 000, 000.However, the machine will require an overhaul at the end of 10 years.
The overhaul will involve the acquisition of new parts and will cost sh.20; 000,000.The new machine
is expected to have a useful life of 15 years and a salvage value of sh.30, 000,000 at the end of its
useful life. Investing in the new machine will also require an additional investment in working capital
of sh.40, 000,000 at the end of 5 years. The investment in working capital will however be recovered
at the end of the machine’s useful life.
The following information relates to the new machine and the existing machine’s expected output of
product “Q” over the 15 years period.
Additional information
1. The unit selling price and unit variable cost of product “Q” are sh.25 and sh.15 respectively.
These are expected to remain constant over the 15 years period.
2. The annual fixed costs excluding depreciation associated with the new machine are expected to
increase by sh.100,000,000 over the 15 years period.
3. The company applies a policy of straight line depreciation for all its fixed assets.
4. The overhaul cost of the new machine will be amortized separately over the remaining useful
life of the machine on straight line basis.
5. The company’s cost of capital is 20%.
6. Corporation tax rate is 30%.
Assume all cash flows, unless otherwise stated occur the end of each year.
Required;
Using the net present value (NPV) technique, advice the company on whether it should replace the existing machine with the new machine.
Date posted: April 25, 2022. Answers (1)
- Omega Manufacturers ltd is contemplating investing in a machine for its manufacturing processes.
The machine will be used to manufacture a product known as “omega”. The...(Solved)
Omega Manufacturers ltd is contemplating investing in a machine for its manufacturing processes.
The machine will be used to manufacture a product known as “omega”. The machine will cost sh.5
million and will incur installation costs amounting to sh.500,000.The machine is expected to have an
economic useful life of 5 years and a resale value of sh.1 million at the end of this period.
The acquisition of this machine is expected to cause changes in working capital at the beginning of
the expected life of the machine. Inventory balances are expected to increase by sh.2 million ,accounts
receivable will increase bysh.2.5,accounts payable will increase by sh.1.5,accrued expenses and
prepaid expenses are expected to decrease by sh.0.5 million and sh 0.4 million respectively. The net
change in working capital will be recovered at the end of the machine’s economic life.
The quantity of ‘omega” expected to be manufactured and sold in each year will be as follows:
Additional information
1. Each unit of omega is expected to be sold at sh.100 in year 1.However the price is expected to
increase by 10% annually thereafter.
2. The variable cost per unit for omega is estimated at Sh.20 in year 1.In subsequent years, this
cost will rise at the same rate as the increase in the selling price.
3. Fixed costs per annum excluding depreciation are estimated at sh.0.5 million.
4. The company applies the straight line method of depreciation for all its fixed assets.
5. The company’s cost of capital is 12%
6. Corporation tax rate is 30%.Corporation tax is paid one year in arrears.
Required;-
Using the net present value (NPV) technique, advise the company on whether the machine should be purchased.
Date posted: April 25, 2022. Answers (1)