Chapter 17: The Management of Cash and Marketable Securities

Chapter 17: THE MANAGEMENT OF CASH AND MARKETABLE SECURITIES
MULTIPLE CHOICE
1. Which of the following methods is (are) used to transfer surplus funds from local (collection) bank
accounts to concentration (disbursement) bank accounts?
a. wire transfers
b. electronic depository transfer checks
c. (mail) depository transfer checks
d. all of these answers are correct
ANS: D PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking
LOC: Understand the role of the finance function | Knowledge of financial analysis and cash flows
TOP: Expediting collections
2. ____ are processed through the Automated Clearing House (ACH) System.
a. Drafts
b. Wire transfers
c. Check-like electronic images
d. Floats
ANS: C PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking
TOP: Electronic funds transfer
3. ____ consists of short-term unsecured promissory notes issued by large, well-known corporations and
finance companies.
a. Negotiable certificates of deposit
b. Commercial paper
c. Repurchase agreements
d. Bankers' acceptances
ANS: B PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking
TOP: Commercial paper
4. ____ are short-term debt instruments issued as part of a commercial transaction, with payment
guaranteed by a commercial bank.
a. Negotiable certificates of deposit
b. Commercial paper
c. Repurchase agreements
d. Bankers' acceptances
TOP: Bankers' acceptances
5. Which of the following statements concerning auction rate money market preferred stocks is (are)
true?
a. The price of the stock stays near par.
b. Fifty percent of the dividends are exempt from corporate income taxes.
c. The dividend yield on these securities is adjusted every 20 days through an auction
process, where investors can exchange their stock for cash.
d. The price of the stock stays well above par.
ANS: A PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking
TOP: Auction rate preferred stocks
6. The primary reason(s) why firms hold liquid asset balances is (are):
a. for transactions purposes
b. for precautionary purposes
c. to compensate its broker for various services rendered to the firm
d. for transaction and precautionary purposes
TOP: Liquid asset balance
7. The "shortage" costs associated with inadequate liquid asset balances include
a. higher cash discounts
b. possible financial insolvency
c. lower interest expense
d. possible financial insolvency and lower interest expense
TOP: Optimal liquid asset balance
8. Liquid asset balances include all of the following except

a. accounts receivable
b. checking account balances
c. marketable securities
d. currency on hand
9. The firm's optimal liquid asset balance occurs where the sum of the opportunity holding and ____
costs is minimized.
a. borrowing
b. compensating balance
c. shortage
d. capital
10. The difference between the firm's checking account balance shown on the books of the bank and the
account balance shown on its own books is known as
a. overdraft
b. compensating balances
c. surplus balances
d. float
TOP: Float
11. All of the following are methods used in expediting the collection of cash except
a. wire transfers
b. lockboxes
c. drafts
d. decentralized collection centers and concentration banks
12. The costs of a lockbox collection system include

a. foregone returns on the required compensating balances
b. service fees charged by the bank
c. increased bad-debt expenses
d. foregone returns on the required compensating balances and service fees charged by the
bank
TOP: Lockbox system
13. The fastest method for moving funds between banks is

a. special courier services
b. wire transfers
c. drafts
d. float
TOP: Wire transfers and depository transfer checks
14. Which of the following statements concerning "zero balance" systems is (are) correct?
a. Zero balance systems help utilize disbursement float more effectively.
b. Exactly enough funds are transferred into the zero balance accounts each day to cover the
checks that have cleared.
c. The function of the concentration account is to receive all deposits coming into the zero
balance system.
d. all of these answers are correct
TOP: Scheduling and centralizing payments
15. Which of the following statements concerning drafts is (are) correct?

a. Drafts require the firm to keep larger balances in its disbursement account.
b. When a draft is transmitted to the firm's bank for collection, the bank must present the
draft to the firm for acceptance before payment is made.
c. Both a and b are correct.
d. Neither a nor b is correct.
TOP: Drafts
16. The optimal amount of the firm's liquid asset balance to be invested in marketable securities is a
function of
a. the interest earned over the expected holding period
b. the transaction cost involved in buying and selling the securities
c. the spread between long-term and short-term interest rates
d. the interest earned over the expected holding period and the transaction cost involved in
buying and selling the securities
LOC: Understand the role of the finance function | Knowledge of financial markets and interest rates
TOP: Investing in marketable securities
17. Which of the following criteria is generally least important in selecting marketable securities for
inclusion in the firm's portfolio?
a. length of maturity
b. yield
c. marketability
d. default risk
LOC: Knowledge of financial analysis and cash flows | Knowledge of financial markets and interest
rates TOP: Choosing marketable securities
18. Which of the following types of marketable securities is considered to have the lowest default risk?
a. bankers' acceptances
b. U.S. Treasury issues
c. repurchase agreements
d. commercial paper
rates TOP: Types of marketable securities
19. Which of the following types of marketable securities normally has the lowest yields?
a. Federal agency issues
b. Treasury bills
c. repurchase agreements
d. commercial paper
20. Which of the following types of marketable securities is most suitable for a smaller firm with only a
few thousand dollars to invest at any given time?
a. money market mutual funds
b. Treasury bills
c. Federal agency issues
d. commercial paper
21. Which of the following types of marketable securities has a relatively weak secondary market?
a. Bankers' acceptances
b. Federal agency issues
c. negotiable certificates of deposit
d. commercial paper
22. The primary reason(s) that firms do not hold long-term U.S. Treasury securities in their marketable
securities portfolio is because
a. the interest-rate risk associated with these securities is too high
b. the transactions costs associated with these securities is too high
c. the default risk associated with these securities is too high
d. these securities are not readily marketable
23. All of the following would be viable securities to purchase with temporary excess cash except:
a. a recently issued 30 year Baa corporate bond
b. U.S. Treasury bill
c. the commercial paper of General Motors Acceptance Corporation
d. a repurchase agreement
24. The "shortage" costs associated with inadequate liquid asset balances include all of the following
except
a. deterioration of the firm's credit rating
b. foregone cash discounts
c. lost sales
d. possible financial insolvency
LOC: Knowledge of financial analysis and cash flows | Understand the role of the finance function
25. All of the following are cash management strategies to expedite collections except
a. a lockbox collection system
b. wire transfers
c. decentralized collection system
d. the use of drafts instead of checks
26. The cash management function is concerned with determining

a. the optimal size of a firm's liquid asset balance
b. the appropriate types and amounts of short-term investments the firm should make
c. the most efficient methods of controlling the collection and disbursement of cash
d. all of these answers are correct.
TOP: Introduction
27. In addition to providing their commercial customers with lines of credit and/or term loans, banks
provide all of the following tangible services EXCEPT:
a. handling of dividend payments
b. registration and transfer of a firm's stock
c. establishment of credit terms
d. cash management
rates TOP: Corporate-bank relations
28. The objective of cash collection and disbursement policies is to

a. minimize storage costs
b. speed up collections and slow down disbursements
c. maximize the return on near cash equivalents
d. avoid using float
TOP: Controlling the collection and disbursement of cash
29. The primary components or sources of float include all the following except
a. check clearing float
b. collection float
c. processing float
d. mail float
TOP: Float
30. In general the ____ the number of checks being handled and the ____ the dollar amount of each check,
the greater the benefit of a lockbox arrangement is to a firm.
a. smaller, greater
b. greater, smaller
c. greater, greater
d. smaller, smaller
TOP: Lockbox system
31. ____, which are similar to other checks except they are not payable on demand, are used primarily to
provide for centralized control over payments authorized in field offices.
a. Preauthorized checks
b. Drafts
c. Mail depository transfer checks
d. Electronic depository transfer checks
TOP: Drafts
32. All of the following are criteria that a firm should consider when deciding where to invest excess cash
reserves among the different types of securities except
a. rate of return
b. maturity date
c. issue date
d. marketability
TOP: Choosing marketable securities
33. To minimize the cost associated with misdirected funds between subsidiaries, many multinational
companies have instituted a process called ____.
a. multinational cash consolidation
b. multilateral netting
c. unilateral netting
d. cash restriction
TOP: International issues: Cash management
34. The first step in efficient cash management is the development of a ____.
a. liquid asset balance
b. cash budget
c. proforma cash flow statement
d. compensating spreadsheet
LOC: Knowledge of financial analysis and cash flows
TOP: Cash flows and the cash budget
35. There is a(n) ____ relationship between a firm's liquid asset balance and "shortage" costs.
a. direct
b. no
c. inverse
d. very small
LOC: Knowledge of financial analysis and cash flows TOP: Optimal liquid asset balance
36. A(n) ____ is an unsigned, nonnegotiable check drawn on the local collection bank and payable to the
concentration bank.
a. pre-authorized check
b. bankers acceptance check
c. special remittance
d. mail depository transfer check
37. A ____ is a security issued by a commercial bank which entitles the holder to receive the amount
deposited plus accrued interest on a specified date.
a. negotiable certificate of deposit
b. commercial paper
c. banker's acceptance
d. repurchase agreement
LOC: Knowledge of financial markets and interest rates
TOP: Negotiable certificate of deposit
38. The Essex Company found that an average of 10 days elapses between when customer payments are
received and the deposited funds clear the customer's bank and become usable by the firm. Essex's
annual sales are $240 million. (Assume 365 days per year when converting from annual data to daily
data or vice versa.) What is the increase in Essex's average cash balance assuming that it can reduce
the time required to process customer payments by 3 days through more efficient payment processing
methods?
a. $666,667
b. $120,000,000
c. $1,972,603
d. $270,000
ANS: C
Solution:
Increase in cash balance = $240,000,000/365  3 = $1,972,603
PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

39. The Essex Company found that an average of 10 days elapses between when customer payments are
received and the deposited funds clear the customer's bank and become usable by the firm. Essex's
annual sales are $240 million (Assume 365 days per year when converting from annual data to daily
data or vice versa.) Suppose that Essex is able to reduce the time required to process customer
payments by 4 days through more efficient payment processing methods. Given that these additional
funds can be used to reduce the firm's outstanding bank loans (10% interest rate), what is the annual
pretax savings in interest expense?
a. $263,014
b. $96,000,000
c. $66,667
d. $2,630,149
ANS: A
Solution:
Savings = [($240,000,000/365)  4]  0.10 = $263,014

40. Osborne Shipbuilding Company, located in Baton Rouge, receives large remittances from its
customers in New York and California. If the firm deposits these checks in its local bank, two business
days are required for the checks to clear and the funds to become usable by the firm. However, if
Osborne sends an employee to New York or California and presents the check for payment at the bank
upon which it is drawn, the funds are available immediately to the firm. The firm can earn 8% per
annum on short-term investments and the cost of sending an employee to New York or California to
present the check for payment is $500. What is the net benefit to the firm of employing this special
handling technique for a $5 million check received on Tuesday (assume 365 days per year)?
a. $2,192.00
b. $1,692.00
c. $2,000.00
d. $1,095.50
ANS: B
Solution:
Benefit = $5,000,000(2)(0.08/365) - $500 = $1,692

TOP: Special check handling analysis
41. Zycad has sales of $110 million a year. If Zycad reduces their processing float by 3 days, what is the
increase in the firm's average cash balance? Assume 365 days per year.
a. $916,667
b. $904,110
c. $872,180
d. $30,137
ANS: B
Solution:
Increase in cash balance = $110,000,000/365  3 = $904,110

TOP: Reduction of processing float
42. MLX has annual sales of $320 million per year and has calculated that the collection float is 12 days.
If MLX is currently paying 9.35 percent on its line of credit, what amount of interest expense could be
saved if the collection float is reduced by 3 days? Assume 365 days per year.
a. $249,333
b. $573,808
c. $299,200
d. $245,918
ANS: D
Solution:
Interest savings = $320,000,000/365  3  0.0935 = $245,918

TOP: Reduction of collection float
43. Pronet has annual sales of $724 million from its 600 retail stores. Pronet can reduce its mail float by 2
days through the use of wire transfers. The annual cost of the wire transfers is expected to be
$105,610. If Pronet's cost of short-term funds is 9.75 percent, should the change to wire transfers be
made? Assume 365 days per year.
a. No, loss of $247,340
b. Yes, savings of $281,185
c. Yes, savings of $474,582
d. No, loss of $105,610
ANS: B
Solution:
Interest savings = ($724,000,000/365)(2)(0.0975) - $105,610 = $281,185

TOP: Wire transfers
44. Tocor is considering the implementation of a lockbox collection system for its mid-western and
western sales regions. Sales in those two regions are 30 percent of Tocor's annual sales of $560
million. The lockbox system will cost $187,000 a year and reduce collection time by 3 days. If Tocor
could invest any released funds at 10.85 percent, should it use the lockbox system? Assume 365 days
per year.
a. Yes, savings of $149,819
c. No, loss of $37,181
d. No, loss of $35,100
ANS: C
Solution:
Net benefits of lockbox = ($560,000,000/365)(0.3)(3)(0.1085) - $187,000
= -$37,181

TOP: Lockbox system
45. Average daily sales for Sierra are $140,000. The financial manager can reduce the float by 4 days
using a lockbox system that will cost $33,000. If the opportunity cost of any funds released is 11
percent, what is the annual savings from this system?
a. $28,600
b. $14,520
c. $61,600
d. $35,000
ANS: A
Solution:
Lockbox savings = $140,000(4)(0.11) - $33,000 = $28,600

TOP: Lockbox system
46. Lexicon has a daily average check collections of $180,000 and it takes the firm 5 days before it can
completely process those checks. An automated lockbox system that costs $33,000 a year would
reduce the processing time by 2 days. Should Lexicon invest in this system if the opportunity cost of
short-term funds is 12.3 percent?
a. Yes, savings of $44,280
c. Yes, savings of $11,280
d. No, loss of $10,860
ANS: C
Solution:
Lockbox savings = $180,000(2)(0.123) - $33,000 = $11,280

TOP: Lockbox system
47. Marcos Company annual sales are $730 million. Suppose Marcos is able to reduce the time required to
process customer payments by 3 days through more efficient payment processing techniques. Given
that any funds released by these methods can be invested elsewhere in the company to yield a 15%
pretax rate of return, determine the annual increase in pretax returns. (Assume 365 days per year in all
calculations.)
a. $900,000
b. $300,000
c. $6,000,000
d. cannot be determined from the information provided
ANS: A
Solution:
Annual pretax returns = [($730,000,000/365)  3]  0.15 = $900,000

TOP: Returns from expediting collections
48. Jester, Inc. has annual sales of $434 million. An average of 12 days elapses between the time a
customer mails its payment and the funds are available to Jester. What is the increase in the average
cash balance if the use of a lock box system is believed to reduce the collection time by 4 days?
a. $ 4.76 million
b. $49.6 million
c. $633,640
d. $ 9.5 million
ANS: A
Solution:
Increase = ($434,000,000/365)(4) = $4.756 million

TOP: Lockbox system
49. Galway's sales average $12 million per day. If Galway could reduce the time between customer's
mailing date and when these payments are available to Galway by 3 days, what would be the resulting
annual increase in earnings if the opportunity cost of funds in 9.25%?
a. $1.11 million
b. $98,630
c. $3.33 million
d. $9,123
ANS: C
Solution:
Increase = $12(.0925)(3) = $3.33 million

50. Fagins, a nationwide department store chain, currently processes all of its credit sales payments at its
St. Louis headquarters. The firm is considering the establishment of a lockbox arrangement with a Los
Angeles bank to process payments from its customers in 10 western states. With the lockbox system,
average mailing time for customers from this region would be reduced from 3 days to 1.5 days. Check
clearing time would also be reduced from 4 days to 2.5 days. Annual collections from the western
region are $150 million. Establishment of this lockbox system would reduce the compensating balance
requirement at the firm's St Louis bank by $600,000 and reduce annual payment processing costs at the
St. Louis office by $30,000. Funds released by the lockbox arrangement can be invested elsewhere in
the firm to earn 12 percent before taxes. The Los Angeles bank has agreed to process Fagins' customer
payments for an annual fee of $100,000. What are the annual net pretax benefits to Fagins of
establishing a lockbox system with the Los Angeles bank (assume 365 days per year)?
a. $222,000
b. $130,000
c. $1,832,877
d. $149,945
ANS: D
Solution:
Reduction in collection time = (3 - 1.5) + (4 - 2.5) = 3 days
Amount. of funds released = $150,000,000/365  3 + $600,000 = $1,832,877
Net benefits = $1,832,877(0.12) + $30,000 - $100,000 = $149,945
PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

TOP: Lockbox system
51. Fagins, a nationwide department store chain, currently processes all of its credit sales payments at its
St. Louis headquarters. The firm is considering the establishment of a lockbox arrangement with a Los
Angeles bank to process payments from its customers in 10 western states. Average mailing time for
customers from this region would be reduced from 3 days to 1.5 days. In addition, check processing
and clearing time would be reduced from 4 days to 2.5 days. Annual collections from the western
region are $150 million. Establishment of this lockbox system would reduce the compensating balance
requirement at the firm's St. Louis bank by $600,000 and reduce annual payment processing costs at
the St. Louis office by $30,000. Funds released by the lockbox arrangement can be invested elsewhere
in the firm to earn 12 percent. The Los Angeles bank has agreed to process Fagins' customer payments
"free of charge" provided that the firm maintains a minimum compensating balance of $1,500,000 in
its account at the bank. What are the annual net benefits to Fagins of establishing a lockbox system
with the Los Angeles bank (assume 365 days per year)?
a. $630,000
b. $332,877
c. $ 69,945
d. $41,096
ANS: C
Solution:
Reduction in collection time = (3 - 1.5) + (4 - 2.5) = 3 days
Amt. of funds released = $150,000,000/365  3 + $600,000 - $1,500,000 = $332,877
Net benefits = $332,877(0.12) + $30,000 = $69,945

TOP: Lockbox system
52. A Delaware bank has offered to set up a lock-box arrangement to process Union Oil Company of
California's (UNOCAL) credit card payments from customers in 8 mid-Atlantic states for an annual
fee of $150,000 plus $0.05 per payment. Total collections from this area are $547.5 million annually --
consisting of an average of 10 payments per year from 1,100,000 credit card customers. Average
mailing time for customers from this region would be reduced from 3.5 days currently to 2 days with
the lock-box system. Check processing and clearing time also would be reduced from 5 days presently
to 1.5 days with the lock-box arrangement. Establishment of the lock-box system would reduce annual
payment processing costs at its Los Angeles headquarters by $250,000 and reduce the compensating
balance at its Los Angeles bank by $500,000. The Delaware bank will not require UNOCAL to
maintain a compensating balance if it establishes a lock-box system. Funds released by the lock-box
arrangement can be invested elsewhere in the firm to earn 15% per annum pretax. Determine the net
pretax benefits to UNOCAL of establishing the lock-box system with the Delaware bank. (Assume
365 days per year in the calculations.)
a. $675,000
b. $750,000
c. $500,000
d. $450,000
ANS: B
Solution:
Reduction in collection time = (3.5 - 2) + (5 - 1.5) = 5.0 days
Amount of funds released = ($547,500,000/365)  5.0 + $500,000 = $8,000,000
Cost of lock-box system = 1,100,000  10  ($0.05) + $150,000 - $250,000 = $450,000
Net pretax benefits = $8,000,000  0.15 - $450,000 = $750,000

TOP: Lockbox system
53. Lone Star Technologies has annual sales of $336 million. Management has determined that an average
of 8 days elapses between the time customers mail their payments and when the funds are available to
the firm. The cost of reducing the float 3 days will be $60,000. Should Lone Star work to reduce the
float if the increase in cash can be invested to earn 7.5% per annum?
a. Yes--savings of $9,041
b. Yes--savings of $147,123
c. Yes--savings of $78,080
d. No--loss of $18,080
ANS: B
Solution:
Savings = ($336,000,000/365)(3)(0.075) - $60,000 = $147,123

54. Currently Nemonix is using a decentralized collection system whereby customers mail their checks to
one of the firm's eight regional locations. Its annual sales are $95 million. Checks are deposited each
business day in a local bank and the amount of the deposit is sent to the firm's concentration bank in
Dallas. The average time between deposit in the local bank and the availability of those funds, in
Dallas, to Nemonix is 6 days. Nemonix has determined that the use of wire transfers would reduce the
float by four days, but the transfer will cost $7.50. If transfers will be made on the 250 days that banks
are open each year, should Nemonix switch to the wire transfer system? Assume that Nemonix can
earn 8% on the funds released through this more efficient transfer.
a. Yes-savings of $106,600
b. Yes-savings of $61,388
c. Yes-savings of $68,288
d. No-loss of $6,671
ANS: C
Solution:
Earnings on released funds = 4($95,000,000/365)(0.08) = $83,288
Additional costs = $7.50 (8)(250) = $15,000
Net (pretax) benefits = $83,288 - $15,000 = $68,288

TOP: Wire transfer analysis
55. Tritonic is considering switching from depository transfer checks to using wire transfers for sending
funds from its local banks to its bank in Chicago. The cost of the wire transfer is $5.25 more than the
cost of depository transfer checks. The change would reduce the total float by 3 days. Tritonic can earn
8.5% on the funds released through the more efficient transfer. If Tritonic has 30 local banks, what
annual sales level would the firm require before the change to wire transfers would be profitable?
Assume there are 250 business days each year.
a. $391,544,118
b. $ 56,360,294
c. $ 84,286,029
d. $ 1,149,750
ANS: B
Solution:
Costs = $5.25(30)(250) = $39,375
Sales level = $39,375 (365) = $56,360,294

(0.085)(3)

TOP: Wire transfer analysis
56. Slimware is considering establishing a zero-balance system for its payroll account. Currently, the firm
pays its hourly employees every week on late Friday afternoon and puts a check for $750,000 in the
bank to cover the payroll each Monday morning. Slimware has determined that the checks clear its
bank as follows:
Day Percent clearing

Monday 26%
Tuesday 51%
Wednesday 14%
Thursday 7%
Friday 2%
What is the annual pretax return to Slimware if the firm can earn 9% on any funds released from
employing the zero-balance system? Assume the company has 52 weekly pay periods each year.
a. $10,374
b. $199.72
c. $24,601
d. $17,488
ANS: A
Solution:
Mon. $750,000(0.74)(0.09/365) = $136.85
Tues. $750,000(0.23)(0.09/365) = 42.53
Wed. $750,000(0.09)(0.09/365) = 16.64
Thur. $750,000(0.02)(0.09/365) = 3.70
Total per pay period = $199.72
Annual return = $199.72(52) = $10,385

TOP: Zero-balance system analysis
57. Amazon's CFO is considering the fees charged by two banks at trying to determine which is best for
her firm. First American charges a flat $0.11 per payment and First Western requires a minimum
compensating balance of $500,000 plus $0.05 per payment. If Amazon's cost of funds is 8.50%, and
the expected number of payments per year is 900,000, which bank should be chosen?
a. FW, savings = $54,000
b. FA, savings = $23,000
c. FW, savings = $11,500
d. FW, savings = $18,500
ANS: C
Solution:
FW = 500,000(.085) + 900,000(.05) = $87,500
FA = 900,000(.11) = $99,000

TOP: Bank service fee analysis
58. Dupree Funds is considering the fees charges by two banks. First America charges a flat rate of $0.11
per payment and First Western requires a minimum compensating balance of $500,000, plus $0.05 per
payment. What is the number of payments per year where the costs of the two banks will be equal?
Assume Dupree's costs of funds is 9%.
a. 281,250
b. 750,000
c. 900,000
d. 409,091
ANS: B
Solution:
x(.11) = 500,000(.09) + x(.05)
x = 750,000

TOP: Bank service fee analysis
59. Cash management involves the determination of:

a. the minimal size of a firm’s asset balance
b. the maximum amount of dividends that should be paid
c. the optimal size of a firm’s liquid asset balance
d. the range of long-term financial alternatives
TOP: Introduction
60. Cash management involves the determination of:

a. the best locations for lockboxes
b. setting up decentralized collection centers
c. both a and b
d. neither a nor b
61. Concentration banking involves:

a. using decentralized collection centers
b. having a large balance at a large commercial bank
c. having multiple accounts with a brokerage firm
d. utilizing an investment banker for when trying to market both stocks and bonds
TOP: Decentralized collection centers and concentration banks
62. Firms that have large multi-million dollar remittances use:

a. the Federal Reserve System
b. couriers
c. lockboxes
d. wire transfers
TOP: Special handling of large remittances
63. An ordinary check that does not require the signature of the person or firm on whose account it is
being drawn is a:
a. cashier’s check
b. preauthorized check
c. depository check
d. float
TOP: Checks
64. Drafts are:

a. payable on demand
b. legally paid on the third business day
c. requires the firm to keep large balances in its disbursement accounts
d. more expensive than checks
TOP: Drafts
65. The “Check 21” act allows banks to:

a. use substitute checks to reduce check clearing time.
b. delay paying the check without proper identification.
c. choose when checks are processed.
d. fingerprint people who are cashing checks.
TOP: Check clearing for the 21st century act
66. All of the following portfolio criteria used in determining which securities to include in a portfolio are
concerned with risk EXCEPT:
a. rate of return
b. default risk
c. marketability
d. maturity date
LOC: Understand risk and return | Understand investments
TOP: Choosing marketable securities
67. Which of the following is/are the most liquid of a company’s assets?
I. Inventory
II. Accounts Receivable
a. I only
b. II only
c. Both I and II
d. Neither I nor II
LOC: Understand the role of the finance function|Knowledge of financial analysis and cash flows
TOP: Introduction
68. Cash management involves much more than simply paying bills and receiving payments for goods and
services. The cash management function is concerned with all of the following EXCEPT:
a. Determining the optimal size of a firm’s liquid asset balance.
b. The appropriate types of long-term debt the firm should have.
c. The most efficient methods of controlling the collection and disbursement of cash.
d. The appropriate types and amounts of short-term investments a firm should make.
LOC: Understand the role of the finance function|Knowledge of capital budgeting
TOP: Introduction
69. Cash flows differ with respect to their degree of certainty. Which of the following can be forecasted
the easiest?
a. Cash outflows
b. Current cash inflows
c. Seasonal cash requirements
d. Future cash inflows
TOP: Cash flows and the cash budget
70. Tangible services provided by a firm’s bank are all of the following EXCEPT:
a. Cash management
b. Supplying credit information
c. Collection of deposits
d. Handling of dividend payments
LOC: Understand the role of the finance function in the enterprise
TOP: Corporate-bank relations
71. Which of the following is/are considered an intangible banking service?

I. Lines of Credit
II. Providing consultation on such matters as economic conditions and mergers
a. I only
b. II only
c. Both I and II
d. Neither I nor II
LOC: Understand the role of the finance function in the enterprise
TOP: Corporate-bank relations
72. A reason that banks would maintain a bank balance exceeding the compensating balance requirements
is:
a. It reduces the opportunity cost.
b. It improves the firm’s credit rating.
c. It alters the requirements imposed by the bank.
d. It reduces shortage costs.
73. ________________________ relationship exists between a firm’s liquid asset balance and shortage
costs.
a. A unified
b. A positively correlated
c. An inverse
d. A linear
74. The level of liquid assets that should be invested in marketable securities depends on several factors,
including all of the following EXCEPT:
a. Seasonal cash requirements
b. Interest to be earned over the expected holding period
c. Transaction costs involved in buying and selling the securities
d. The variability of the firm’s cash flows
TOP: Investing in marketable securities
ESSAY
1. Explain how companies can slow disbursements in order to keep funds in the bank for longer periods
of time.
ANS:
Firms can:
1. Schedule and centralize payments: Firms should pay bills on time; there is no benefit to paying bills
early unless there is a cash discount for early payment. Centralizing payments from disbursement
accounts helps minimize the amount of idle funds a firm must keep in local field offices and divisional
bank accounts.
2. Drafts: By issuing drafts instead of checks, the bank must present the draft to the firm for
acceptance before making payment. Checks are payable on demand.
3. Minimize check-clearing float: By making payments from a checking account located a long
distance from the supplier, the firm increases the time required for the check to clear through the
banking system.
PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

2. Name the three primary components (or sources) of float:
ANS:
1. Mail float is the delay between the time a payment is sent to the payee through the mail and the time
that payment arrives at the payee’s office.
2. Processing float is the delay between receipt of payment from a payer and the deposit of that receipt
in the payee’s account.
3. Check-clearing float is the delay between the time a check is deposited in the payee’s account and
the time the funds are available to be spent.

3. When and why is it best to use lockboxes? Explain when should alternative methods be used.
ANS:
Lockboxes are best used when the number of checks handled is small and the dollar amount of each
check is large. Under these conditions, the bank’s workload is light and the associated service fees,
compensating balance, or both, are small. When large numbers of checks with small dollar amounts
are involved, a lockbox system may not be profitable. The opportunity costs on the required
compensating balances, the service fees, or both, may exceed the earnings the firm realizes from
having the funds available a few days earlier.

LOC: Knowledge of the role of the finance function | Knowledge of financial analysis and cash flows
TOP: Expediting collections | Lockbox system
4. Banks use depository transfer checks to move surplus funds from bank accounts to its concentration
bank account or accounts. Explain how this is done.
ANS:
There are two types of depository transfer checks. A mail depository transfer check is an unsigned,
nonnegotiable check drawn on the local collection bank and payable to the concentration bank. As it
deposits customer checks in the local bank each day, the collection center mails a depository transfer
check to the concentration bank authorizing it to withdraw the deposited funds from the local bank.
Upon receipt of the depository transfer check, the firm’s account at the concentration bank is credited
for the designated amount. Depository transfer checks are processed through the usual check clearing
process. Although the use of depository transfer checks does not eliminate mailing and check-clearing
time, it does ensure the movement of funds from the local collection center banks to the concentration
bank in a timely manner.
An electronic depository transfer check can also be used to move funds from a local bank to a
concentration bank. The process of transmitting deposit information to a concentration bank is similar
to that for mail DTCs except that the information is sent electronically through an automated
clearinghouse, such as the automated clearinghouse system of the Federal Reserve or Clearing House
Interbank payments System. These systems eliminate the mail float in moving funds from the local
bank to the concentration bank. Funds transferred this way are available for use by the firm in one day
or less.

5. Why do firms hold liquid asset balances?
ANS:
Firms hold liquid asset balances for a number of reasons:
1. Liquid asset balances serve as a buffer between the inflows and outflows of day-to-day operations.
They also help a firm handle seasonal fluctuations in cash flows.
2. Liquid asset balances are necessary to meet unexpected requirements for cash.
3. They are held to meet future requirements such as fixed outlays, quarterly tax and dividend
payments, capital expenditures and loan repayments.
4. They are held for speculative reasons, such as having the timing flexibility in pursuing acquisitions.
5. They are held to compensate the bank for services provided, called compensating balances.

LOC: Knowledge of financial analysis and cash flows TOP: Liquid asset balance
6. Explain why firms would want to maintain a bank balance exceeding the compensating balance
requirements.
ANS:
By maintaining a bank balance exceeding the compensating balance requirements a firm avoid the
“shortage” costs associated with inadequate liquid asset balances. These costs can be:
1. forgone cash discounts
2. deterioration of the firm’s credit rating
3. higher interest expenses
4. possible financial insolvency


Chapter 17: The Management of Cash and Marketable Securities

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Chapter 17: The Management of Cash and Marketable Securities

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Chapter 17: THE MANAGEMENT OF CASH AND MARKETABLE SECURITIES

8. Liquid asset balances include all of the following except

12. The costs of a lockbox collection system include

13. The fastest method for moving funds between banks is

15. Which of the following statements concerning drafts is (are) correct?

26. The cash management function is concerned with determining

28. The objective of cash collection and disbursement policies is to

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: E. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

Sales level = $39,375 (365) = $56,360,294

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

Day Percent clearing

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

PTS: 1 OBJ: TYPE: C. Prob NAT: Analytic skills

59. Cash management involves the determination of:

60. Cash management involves the determination of:

61. Concentration banking involves:

62. Firms that have large multi-million dollar remittances use:

64. Drafts are:

65. The “Check 21” act allows banks to:

71. Which of the following is/are considered an intangible banking service?

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

2. Name the three primary components (or sources) of float:

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

5. Why do firms hold liquid asset balances?

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

PTS: 1 OBJ: TYPE: Fact NAT: Reflective thinking

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