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Credit analysis is a type of financial study that an investor or bond portfolio manager undertakes on firms, governments, municipalities, or other debt-issuing entities in order to assess their capacity to satisfy their debt commitments.
• Financial statements
• Credit reports
• The customer’s payment history with the firm
Five C’s of Credit
The customer’s willingness to meet credit obligations.
The customer’s ability to meet credit obligations out of operating cash flows.
The customer’s financial reserves.
Assets pledged by the customer for security in case of default.
General economic conditions in the customer’s line of business.
Short Term Financial Planning
Operating Cycle and Cash Cycles
The operating cycle is the time between the acquisition of inventory and the collection of cash from receivables.
• Operating cycle = inventory period + accounts receivable period
Cash cycle: The time between cash disbursement and cash collection.
• Cash cycle = Operating cycle – Accounts payable period
Inventory management aids businesses in determining what, when, and how much stock to order. It keeps track of merchandise from purchase to sale. The practice monitors and reacts to trends to guarantee that there is always enough stock to satisfy client orders and that shortages are detected early.
Inventory Management Techniques –
⦁ The ABC Approach
⦁ Economic Order Quantity Model
1. Capital budgeting
• It is the process of planning and managing a firm’s long-term investments.
• Size, timing, and risk of future cash flows are the essence of capital
• What long-term investments or projects should the business take on?
2. Capital structure
• It is the mixture of debt and equity maintained by a firm.
• How should we pay for our assets?
• Should we use debt or equity?
• What are the least expensive sources of funds for the firm?
3. Working capital management
• It is the firm’s short-term assets and liabilities.
• How do we manage the day-to-day finances of the firm?
• How much cash and inventory should we keep on hand?
Goals of Financial Management –
⦁ To maximize profit
⦁ To minimize costs
⦁ To maximize market share
⦁ To maximize the current value per share of the company’s existing
⦁ To maximize the market value of the existing owners’ equity
Macleay College is a private educational institution located in Chippendale, New South Wales Australia. The college has three campuses across Australia- the Sydney campus, the Melbourne campus, and the Brisbane campus offering Bachelor and Diploma courses to students. The college provides courses in Business, Journalism, Advertising & Digital Media to students worldwide.
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Section 1 below, covers theory and critical thinking questions.
Section 2 below, covers practical questions. Please document your answers with formulas and workings.
Section 1: Theory, Short Answer Questions (40marks)
1. Questions 1a, 1b, 1c, 1d and 1e
Provide an appropriate answer to the following questions:
a. What is the agency problem? What are the remedies for the agency problem? Explain.
b. Explain the terms systematic risk and unsystematic risk.
c. What are the three types of financial management decisions?
d. What is the goal of financial managers? Please explain in your own words.
e. Explain the concept of “Diversification” in finance.
2. Question – 2a and 2b.
Working Capital Management
a. What are the Five C’s of Credit? Explain why these C’s are important.
b. Inventory Types. What are the different inventory types? How do the types differ? Why are some types said to have dependent demand, whereas other types are said to have independent demand?
3. Question – 3a, 3b, and 3c
a. Why are the big 4 Australian banks the most important financial institutions in Australia?
b. Explain the purpose of each member of the Council of Financial Regulators in Australia.
c. Name the three critical risks that each Australian bank faces and explain the risk in your own words.
Section 2: Calculations (60marks)
Question 1. Portfolio Expected Return
Assume that you have a portfolio with the following:
a. What is the expected return of your portfolio?
Question 2. Calculating Cash Collections
The Newtown Liquorice Company has projected the following monthly sales amounts for the coming half-year.
Question 3. Credit Discounts – Measuring the effective annual rate (EAR)
A firm currently offers a term of sale of 2/20, net 40. What effect will the following actions have on the effective annual interest rate charged to customers that pass up the cash discount? Will the EAR interest rate increase or decrease?
a. The terms are changed to 4/20, net 40.
b. The terms are changed to 3/30, net 40.
c. The terms changed to 3/20, net 30.
Question 4. Michael Electronics uses 950 switch assemblies per week and then reorders another 950. If the relevant carrying cost per switch assembly is $5.25 and the fixed order cost is $490. What do you think Michael Electronics’ inventory policy is optimal, and why or why not?
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