CTP Exam Preparation

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CTP Exam PreparationEssentials of Treasury Management, 3ed.
Chapter 6: Intro. To Working Capital Management
Chapter 7: Working Capital Tools
Presented By: Susan Etheredge, CTP, CICM
CTM Director
Baylor University
1
Chapter 6: Introduction to Working
Capital Management
Outline:
• The Cash Conversion Cycle (CCC)
• How Changes in Current Accounts Impact External
Financing
• Working Capital Investment and Financing
Strategies
• Management of Credit and A/R
• Management of Inventory
• Management of A/P
2
The Cash Conversion Cycle
Order
Received
<
Credit Sale
Inventory > <
(DIH)
$$$$
Received
Accounts Receivable
(DSO)
>
Time 
<
Accounts Payable
(DPO)
Invoice Received
>
< CCC >
$$$$ Disbursed
Cash Conversion Cycle (CCC)
• Formula:
CCC = DIH + DSO – DPO
Days Inventory Held
Days
Receivables/Sales
Outstanding
Days Payables
Outstanding
Inventory
C ost of G oods Sold
 365
Accounts R eceivable
 365
R evenues
Accounts P ayable
C ost of G oods S old
 365
Calculation of CCC and Cash Turnover
Calculate the CCC and Cash Turnover given the following:
• Days inventory = 45 days
• Days receivables = 35 days
• Days payables = 30 days
CCC = DIH + DSO + DPO
CCC = 45 + 35 – 30 = 50 days
Cash Turnover = 365/CCC = 365/50 = 7.3 times
5
Spontaneous Assets & Liabilities
Current Assets
Inventory and Accounts Receivable
As sales increase, inventory and A/R also increase, resulting in
larger dollar amounts invested in those accounts.
Increase results in decreased cash and/or increased debt
Current Liabilities
Accounts Payable and Accruals
A decrease results in decreased cash and/or increased debt
6
Current Asset Investment Strategies
• Restrictive
– Low levels of current assets relative to sales.
• Raw materials investment is tightly managed using JIT.
• A/R and cash balances are kept low.
– Result:
• Greater profit possible
• Greater risk
• Relaxed
– High levels of current assets relative to sales.
• High levels of cash
• High levels of A/R
– Result:
• Lower profit likely
• Less risk
7
Current Asset Financing Strategies
• Maturity Matching
• Conservative
• Aggressive
8
Credit Policies
Policies should clearly define:
• Credit standards
• Credit terms
• Discount terms
• Collection policies
Standards - Five C’s of Credit
Character
Willingness to pay -- evidenced by
payment history
Capacity
Current and future financial resources
that can be committed to pay obligations
Capital
Short- and long-term financial resources
-- supplement insufficient cash flow
Collateral
Assets or guarantees to secure an
obligation if non-payment
Conditions
Economic environment impacting
customer’s ability to pay, or willingness
of a company to grant credit
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Professionals. All rights reserved.
Forms of Credit Extension
Form
Payment
Due
Interest?
Customer
Type
Payment
restore
available
credit?
Open Account
(Open Book)
By invoice per
terms of sale
No – unless late
payment
B2B
Yes
Installment
Credit
Monthly –
equal
payments of
Prin. & Int.
Yes
B2C
No
Revolving
Credit
Monthly – on
unpaid
amounts plus
current month
purchases
Yes – on unpaid
balances
B2C
Yes
Both
Sometimes
(Like credit
cards)
Letter of
Credit – Int’l
Trade
May be sight or Sometimes
deferred
Common Terms of Sale
• Cash before delivery (CBD)
• Cash on delivery (COD)
• Cash terms
• Net terms
• Discount terms
• Monthly billing
• Draft/bill of lading
• Seasonal dating
• Consignment
12
Financing A/R
• Unsecured borrowing
• Secured borrowing
• Securitization
• Captive finance subsidiary
• Third-party financing
• B2B credit cards
• Factoring
• Private-label financing
13
Cross-Border Trade Management
Other methods:
• Banker’s acceptances (BAs)
• Trade acceptances
• Barter
• Countertrade
• Trading companies
Documentary Collection
Note: Banks act only as collecting and paying agents and do not guarantee payment
Foreign
Collecting
Bank
5-Pay
7-Pay
4-Docs
6-Docs
Buyer
(Importer)
Remitting
Bank
3-Docs 8-Pay
2-Ship
1-Agree
Seller
(Exporter)
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Commercial vs. Standby L/Cs
Commercial
• Issued by a bank
• Payment mechanism
•
•
• Ensures payment for the
shipment of merchandise
•
• Typically requires
presentation of a draft,
commercial invoice and
shipping documents
•
Standby
Issued primarily by U.S. banks
“Stands by”-not intended as
payment mechanism
Ensures the performance of a
bank’s customer (applicant) to a
third-party (beneficiary)
Typically requires the
presentation of a sight draft and
notice of non-performance by
the applicant
L/C Transaction
3-Issue L/C
7-Docs
Issuing
Bank
8-B/A
11-B/A presented
2-Apply
for L/C
Advising/
Negotiating
Bank
6-Docs
10-Docs,
when pymt.
arranged
9-Pay
4-Advise
L/C
5-Ship
Buyer
(Importer)
1-Agree
Seller
(Exporter)
(Beneficiary)
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Inventory Policy
• Reasons for holding
• Types held
• Levels of inventory
• Benefits and costs of holding
• Financing
18
JIT Inventory Management
•
•
•
•
Minimizes inventory
Often paired with MPS.
Retailers link to POS equipment.
Goals:
– Eliminate waste.
– Standardize the production process.
– Continuously improve quality.
• Benefits:
– Improved supplier relationships
– lower transaction costs
– better planning
• Supplier-managed replenishment programs
• Paid-on-production processes
19
A/P Responsibilities
• Vouchering
– Verify incoming invoices and authorize payments.
– Traditional three-way match: Invoice matched to
both an approved purchase order and receiving
information.
Invoice
• Disbursement System
– Information
– Fraud Prevention
– Relationship with Payees
P.O.
Goods
Rec’d.
20
Chapter 7: Working Capital Tools
Outline:
• Treasury Management Timelines
• Cash Discount Calculations
• Cash Conversion Cycle (CCC)
• A/R Monitoring and Control
• Considerations for Global
Management of Working Capital
• E-Commerce
Cash Flow Timeline and Float
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Collection vs. Disbursement Float
• Mail float
• Processing float
• Clearing or Availability float (depends on POV)
Mail
Processing
Collection \ Availability POV of Payee
Disbursement \ Clearing POV of Payor
23
Float Neutral Calculation
Payment timing changes
Seller adjusts the timing (i.e., value
date) of the payment.
Price changes (discount
offer)
Seller offers buyer a cash discount
to compensate for earlier payment.
• Discount depends on buyer’s cost of funds and timing difference in days.
• Example: r = 12% and TD = 3 days.
D is c o u n t
= 1 
Where:
TD = Total days
difference between check
and electronic payments
= 1 
r = Opportunity cost
as an annual rate
=1 
1

 r 
1
+
T
D



 365 

1

 12% 
1
+
3



 365 

1
= 1  0 .9 9 9 0 1 4 6 7
1 .0 0 0 9 8 6 3
= 0 .0 0 0 9 8 5 3 3 = 0 .0 0 1 (R o u n d e d ) o r 0 .1 0 %
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Cost for a Buyer of Not Taking a Cash
Discount
• Terms: 2/10 net 30
• Should a discount be taken if the cost of shortterm funds is 8%?
Discount Cost =
D
365

100  D N  T
=
2
365

100  2 30  10
=
2
365

= 0.0204  18.25 = .3723 or 37.23%
98
20
Where:
D = Discount percentage—2%
N = Net period—30 days
T = Discount period—10 days
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Offering a Cash Discount: Benefit/Cost
for Seller
• Terms are 2/10, net 30.
• Seller’s opportunity cost of funds is 15%
• $100,000 sale
PVReceive on Day 10
 TAFP   1  D    $100,000   1  .02  
=
=
= $97,598.91
 

CC  
.15  

1+T 
1 +  10 


 


365
365






PVReceive on Day 30 =
TAFP

1+


CC  

N



365  

=
$100,000
 
.15  
1 +  30 

 
365  

= $98,782.13
NPV = PV Day 10  PVDay 30 = $97,598.91  $98,782.13 =  $1,183.22
Where TAFP = total amount of full payment; CC = annual opportunity cost of capital (in this
example, 15%); D = discount rate; T = days in discount period; N = days in net period
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Professionals. All rights reserved.
Monitoring A/R
Monitoring individual accounts allows identification of:
– Errors or delays in the invoicing or payment that are slowing
collections
– Customers who may delay payment intentionally
– A change in financial condition that may alter a customer’s
ability to make timely payments and require the curtailment
of future credit sales
Monitoring aggregate A/R allows identification of:
– Changes in financing needs
– Changes in business
27
Days’ Sales Outstanding (DSO)
• Assume:
– outstanding receivables of $285,000 at the end of the first quarter
– credit sales of $310,000 for the quarter.
Using a 90-day averaging period, the DSO is computed as follows:
Avg. Daily Credit Sales =
DSO =
Sales During Period
Num ber of Days in Period
O utstanding A/R
Avg. Daily Credit Sales
=
=
$310,000
= $3, 444.4 4
90
$285,000.00
= 82.74 Days
$3, 444.44
If the company’s credit terms are net 60, the average past
due is computed as follows:
Average Past Due = DSO  Avg. Days of Credit Term s
= 82.74 Days  60 Days = 22.74 Days
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Professionals. All rights reserved.
Aging Schedule
• Separates A/R into current and past-due
receivables in 30-day increments
• Can determine the percent past due
Age of A/R
Current
Amount of A/R
% of Total A/R
$1,750,000
70%
1-30 days past due
375,000
15%
31-60 days past due
250,000
10%
Over 60 days past due
125,000
5%
Total
$2,500,000
100%
v3.0 © 2011 Association for Financial
Professionals. All rights reserved.
A/R Balance Pattern for March
=+$ 25,000
=+$160,000
=+$105,000
=+$ 50,000
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Professionals. All rights reserved.
Multilateral Netting
31
Leading and Lagging
• Leading
– Paying before
– Payor’s currency is expected depreciate
• Lagging
– Paying after
– Payor’s currency is expected to appreciate
32
Re-Invoicing
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Electronic Data Interchange (EDI)
Structured electronic transactions
Buy side




Sell side
Purchasing
Order placement
Receiving
A/P




Sales
Order processing
Shipping
A/R
Secure messages, no data reentry
Proprietary EDI


Exclusive use of trading partners
Retail, transportation, automotive
Cross-industry EDI


ASC X12
UN/EDIFACT
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Professionals. All rights reserved.
Use of the Internet for
E-Commerce and EDI
Internet-based e-commerce
Internet-enabled EDI
• Uses the Internet and Internet
technology to link business
applications between trading
partners
• Data transfer is often in a nonEDI format:
• Often used to encourage
smaller trading partners
to begin using EDI
• Useful for low
transaction volumes
within limited trading
communities
– Proprietary between two users
– Industry standard or a general
standard
35
Differentiate: ERS, P-o-P, EBPP, EIPP
• A manufacturer has a long CCC , a strategic
partnership with a single supplier, cannot adjust
raw materials turnover due to the nature of the
process, and must use JIT. Which e-commerce
process fits best?
a)
b)
c)
d)
Evaluated receipts settlement (ERS)
Paid-on-production
Electronic bill presentment and payment (EBPP)
Electronic invoice presentment and payment (EIPP)
36

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