All of the following are reasons for holding cash except for the
Answer (C) is correct. The three motives for holding cash are (1) as a medium of exchange (the transactions motive), (2) to provide a reserve for contingencies (the precautionary motive), and (3) to take advantage of unexpected opportunities (the speculative motive).
All of the following can be utilized by a firm in managing its cash outflows except
Answer (D) is correct. A lockbox system is a means of managing cash inflows, not outflows.
JKL Industries requires its branch offices to transfer cash balances once per week to the central corporate account. A wire transfer costs $12 and assures the cash is available the same day. A depository transfer check (DTC) costs $1.50 and generally results in funds being available in 2 days. JKL’s cost of short-term funds averages 9%, and they use a 360-day year in all calculations. What is the minimum transfer amount that would justify the cost of a wire transfer as opposed to a DTC?
Answer (A) is correct. To break even, the interest that JKL can earn on the early deposits must at least equal the excess of the wire transfer fee over the cost of the DTC. Transfer amount × 9% × (2 days ÷ 360 days) = $12 WT – $1.50 DTC Transfer amount × .05% = $10.50 Transfer amount = $21,000
Burr Company had the following account balances at December
31, year 2:
Cash in banks $2,250,000
Cash on hand 125,000
Cash legally restricted for additions to plant
(expected to be disbursed in year 3) 1,600,000
Cash in banks includes $600,000 of compensating balances
against short-term borrowing arrangements. The compensating
balances are not legally restricted as to withdrawal by Burr. In the
current assets section of Burr’s December 31, year 2 balance
sheet, total cash should be reported at
(c) Cash on hand ($125,000) and cash in banks
($2,250,000) are both reported as cash in the current asset section
of the balance sheet because they are both unrestricted and
readily available for use. Cash legally restricted for additions to
plant ($1,600,000) is not available to meet current operating
needs, and therefore should be excluded from current assets.
Instead, it should be shown in the long-term asset section of the
balance sheet as an investment.
Ral Corp.’s checkbook balance on December 31, year 2, was
$5,000. In addition, Ral held the following items in its safe on
Check payable to Ral Corp., dated January 2, year 3,
in payment of a sale made in December year 2, not
included in December 31 checkbook balance...... $2,000
Check payable to Ral Corp., deposited December 15
and included in December 31 checkbook balance,
but returned by bank on December 30 stamped
“NSF.” The check was redeposited on January 2,
year 3, and cleared on January 9........ 500
Check drawn on Ral Corp.’s account, payable to a
vendor, dated and recorded in Ral’s books on
December 31 but not mailed until January 10, year 3......... 300
The proper amount to be shown as Cash on Ral’s balance sheet
at December 31, year 2, is
(a) To be classified as cash, the item must be readily
available for current needs with no legal restrictions limiting its
use. A postdated check is not acceptable for deposit and therefore
is not considered cash. Thus, the $2,000 check was correctly
excluded from the 12/31 checkbook balance and no adjustment
is necessary. An NSF check should not be included in cash until
it has been redeposited and has cleared the bank. At 12/31, the
NSF check ($500) had not yet been redeposited, so it was incorrectly
included in the 12/31 checkbook balance, and an adjustment
must be made. The check which was not mailed until
1/10/Y3 ($300) should not be subtracted from cash until the
company gives up physical control of that amount. Therefore,
$300 must be added back to the checkbook balance. As a result
of these adjustments, the correct cash balance is $4,800 ($5,000
– $500 + $300).
On October 31, year 2, Dingo, Inc. had cash accounts at
three different banks. One account balance is segregated solely
for a November 15, year 2 payment into a bond sinking fund. A
second account, used for branch operations, is overdrawn. The
third account, used for regular corporate operations, has a positive
balance. How should these accounts be reported in Dingo’s
October 31, year 2 classified balance sheet?
(a) Cash which is segregated and deposited into a bond
sinking fund is presented in a classified balance sheet as a noncurrent
asset because its use is restricted. Bank overdrafts are presented
as current liabilities, unless other accounts at the same
bank contain sufficient cash to offset the overdraft. The operating
account that has a positive balance, should be presented as a
Troy Toys is a retailer operating in several cities. The
individual store managers deposit daily collections at a local bank
in a noninterest-bearing checking account. Twice per week, the
local bank issues a depository transfer check (DTC) to the central
bank at headquarters. The controller of the company is considering
using a wire transfer instead. The additional cost of each
transfer would be $25; collections would be accelerated by two
days; and the annual interest rate paid by the central bank is 7.2%
(0.02% per day). At what amount of dollars transferred would it
be economically feasible to use a wire transfer instead of the
DTC? Assume a 360-day year.
(d) The requirement is to determine the effect of changing
from using a depository transfer check to using a wire transfer.
The change is feasible if the interest savings offsets the increased
costs. For a fee of $25, the firm gets two extra days’
interest on the average transfer amount. By dividing the $25 fee
by the interest rate for two days, .04% (2 days × .02%), we get
$62,500. Therefore, management should make the change if the
average transfer is expected to be greater than $62,500. Answer
(a) is incorrect because it is a calculating assuming there is
only a one-day decrease in float.
Which of the following is true about electronic funds transfer
from a cash flow standpoint?
(c) The requirement is to consider the cash flow
implications of electronic funds transfer. Answer (c) is correct
because electronic funds transfer takes the float out of both the
cash receipts and disbursements processes. It is beneficial to take
the float out of the cash receipts process but not the cash disbursements
Management of Radker Corp. is considering a lockbox system.
The bank will charge $10,000 annually for the service,
which will save the firm approximately $5,000 in processing
costs. The lockbox system will reduce the float for cash receipts
by three days. Assuming that the average daily receipts are equal
to $100,000, and short-term interest costs are 5%, calculate the
benefit or loss from adopting the lockbox system.
(c) The requirement is to determine the benefit or loss
from establishing the lockbox system. The firm saves money if
the interest savings is greater than the increased cost of processing
cash receipts. The increased cost of processing cash receipts
is equal to $5,000 ($10,000 bank charge – $5,000 cost
savings). The interest savings is measured by multiplying the
increase in average funds by the short-term interest rate. The
firm will have use of an additional $300,000 ($100,000 × 3 days)
in average funds. Therefore, the interest savings is equal to
$15,000 ($300,000 × 5%), and the overall benefit is equal to
$10,000 ($15,000 – $5,000). Answer (a) is incorrect because it
ignores the interest savings. Answer (b) is incorrect because it
only considers the bank charge.
Which of the following is true about a firm’s float?
(d) The requirement is to describe how firms attempt to
manage float. Float is the time that elapses relating to mailing,
processing, and clearing checks. A firm strives to minimize its
cash receipts float to get use of the receipts as soon as possible,
and to maximize its cash disbursement float to get use of the
funds for as long as possible. Therefore, the correct answer is