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Short term credit selection and inventory control

Short Term Financing

  1. How can a firm in need of short-term financing decide whether or not to take a cash discount offered by its supplier? How would this decision change in the event the firm has no alternative source of short-term financing?

SAMPLE ANSWER:

A firm in need of short term financing to finance its working capital requirements will have to explore the cost option at the time of deciding whether or not to take a cash discount offered by its supplier. Any firm that is offered a cash discount has two options – Payment of full invoice amount at end of the period, hence no discount availed or pay the invoice amount less cash discount at the end of the cash discount period. The only difference between availing the cash discount and not availing it is the interest payment made by the firm to the supplier for making payment late.  Hence if the firm is in need of short term finance it must make a comparison of the interest rate charged by the supplier and the best rate offered by various providers (sources) of short term finance. It should chose from the lowest cost option. It is advisable to borrow in order to take a cash discount when the cost of borrowing is less than the cost of foregoing the discount. If it cost us 36 percent to miss a discount, we would be much better off finding an alternate source of funds for 8 to 10 percent.

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2.Why is using the five C’s of credit the appropriate credit selection procedure for high-dollar credit requests but not appropriate for high-volume–low-dollar requests, such as department store credit cards?

3. Why is it important for the financial manager to understand the inventory control techniques used by production/operations managers? How does controlling inventory impact a firm’s profitability

4. Assume that the financial manager is considering stretching the firm’s accounts payable by paying its vendors at a later date. What are the key cost trade-offs that would be involved when making this stretching decision

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