Test Prep Test Prep Certifications BUSINESS-ENVIRONMENT-AND-CONCEPTS Questions & Answers

• Question 51:

  Which one of the following responses is not an advantage to a corporation that uses the commercial paper market for short-term financing?

  A. The borrower avoids the expense of maintaining a compensating balance with a commercial bank.

  B. There are no restrictions as to the type of corporation that can enter into this market.

  C. This market provides a broad distribution for borrowing.

  D. A benefit accrues to the borrower because its name becomes more widely known.

  Correct Answer: B

  Choice "b" is correct. There are restrictions as to the type of corporation that can enter into the commercial

  paper market for short-term financing, since the use of the open market is restricted to a comparatively

  small number of the most credit-worthy large corporations.

  The commercial paper market:

  A. Avoids the expense of maintaining a compensating balance with a commercial bank.

  C. Provides a broad distribution for borrowing.

  D. Accrues a benefit to the borrower because its name becomes more widely known.

• Question 52:

  All of the following are alternative marketable securities suitable for investment, except:

  A. Eurodollars.

  B. Commercial paper.

  C. Bankers' acceptances.

  D. Convertible bonds.

  Correct Answer: D

  Choice "d" is correct. Convertible bonds. Temporarily idle cash should be inverted in very liquid, low risk short-term investments only. U.S. T-bills are basically risk-free. Banker's acceptances and Eurodollars are only slightly more risky. Commercial paper, the short-term unsecured notes of the most credit-worthy large

  U.S. corporations is a little riskier, but still relatively low risk. However, convertible bonds are subject to default risk, liquidity risk, and maturity (interest rate) risk, and as such are inappropriate securities for short-term marketable security investment.

• Question 53:

  Which one of the following is not a characteristic of a negotiable certificate of deposit? Negotiable certificates of deposit:

  A. Have a secondary market for investors.

  B. Are regulated by the Federal Reserve System.

  C. Are usually sold in denominations of a minimum of $100,000.

  D. Have yields considerably greater than bankers' acceptances and commercial paper.

  Correct Answer: D

  Choice "d" is correct. Negotiable CDs generally carry interest rates slightly lower than bankers'

  acceptances (which are drafts drawn on deposits at a bank) or commercial paper (which is unsecured debt

  issued by credit worthy customers).

  Choice "a" is incorrect. Negotiable CDs have a formal secondary market.

  Choice "b" is incorrect. Negotiable CDs are a product of the banking industry, which is regulated by the

  Federal Reserve Board.

  Choice "c" is incorrect. Negotiable CDs are usually sold in denominations of a minimum of $100,000.

• Question 54:

  Commercial paper:

  A. Has a maturity date greater than one year.

  B. Is generally sold only through investment banking dealers.

  C. Generally does not have an active secondary market.

  D. Has an interest rate lower than treasury bills.

  Correct Answer: C

  Choice "c" is correct. Although commercial paper has a secondary market available, it is generally not an

  active secondary market. Commercial paper is usually sold to the money markets by highly creditworthy

  companies.

  Choice "a" is incorrect. The maturity dates are generally less than 270 days.

  Choice "b" is incorrect. Commercial paper can be sold to the money markets through a variety of

  intermediaries including brokers, dealers, investment brokers, etc. It can also be sold direct from one

  company to another. Choice "d" is incorrect. The interest rate on commercial paper is below the prime rate,

  but generally above the Treasury bill rate.

• Question 55:

  Which one of the following statements concerning cash discounts is correct?

  A. The cost of not taking a 2/10, net 30 cash discount is usually less than the prime rate.

  B. With trade terms of 2/15, net 60, if the discount is not taken, the buyer receives 45 days of free credit.

  C. The cost of not taking the discount is higher for terms of 2/10, net 60 than for 2/10, net 30.

  D. The cost of not taking a cash discount is generally higher than the cost of a bank loan.

  Correct Answer: D

  Choice "d" is correct. The cost of not taking a cash discount is generally higher than the cost of a bank

  loan.

  Choice "a" is incorrect. The cost of not taking a 2/10, net 30 cash discount is usually more than the prime

  rate.

  Choice "b" is incorrect. With trade terms of 2/15, net 60, if the discount is not taken, the buyer receives 60

  (not 45) days of free credit. Choice "c" is incorrect. The cost of not taking the discount is lower (not higher)

  for terms of 2/10, net 60 than for 2/10, net 30.

• Question 56:

  Using a 360-day year, what is the opportunity cost to a buyer of not accepting terms 3/10, net 45?

  A. 55.67 percent.

  B. 31.81 percent.

  C. 15.43 percent.

  D. 24.00 percent.

  Correct Answer: B

  Choice "b" is correct. 31.81% Formula:

  

• Question 57:

  If a firm's credit terms require payment within 45 days but allow a discount of 2 percent if paid within 15 days (using a 360 day year), the approximate cost/benefit of the trade credit terms is:

  A. 16 percent.

  B. 48 percent.

  C. 24 percent.

  D. 36 percent.

  Correct Answer: C

  Choice "c" is correct. The formula for computing the cost/benefit for trade discounts is:

  

  Choice is 24% ("c").

  Choices "a", "b", and "d" are incorrect, per the above calculations.

• Question 58:

  When a company offers credit terms of 2/10, net 30, the annual interest cost, based on a 360-day year, is:

  A. 24.0 percent.

  B. 35.3 percent.

  C. 36.0 percent.

  D. 36.7 percent.

  Correct Answer: D

  Choice "d" is correct. The formula for calculating the cost of a credit policy is:

  

  Therefore, the cost of customers taking this discount is 36.7% of the invoice price of the sale. Choices "a", "b", and "c" are incorrect, per the above answer.

• Question 59:

  Foster Inc. is considering implementing a lock-box collection system at a cost of $80,000 per year. Annual sales are $90 million, and the lock-box system will reduce collection time by 3 days. If Foster can invest funds at 8 percent, should it use the lock-box system? Assume a 360-day year.

  A. Yes, producing savings of $60,000 per year.

  B. No, producing a loss of $20,000 per year.

  C. No, producing a loss of $60,000 per year.

  D. No, producing a loss of $140,000 per year.

  Correct Answer: B

  Choice "b" is correct. No, do not use the lock-box system, which produces a loss of $20,000 per year.

  

• Question 60:

  Which one of the following represents methods for converting accounts receivable to cash?

  A. Trade discounts, collection agencies, and credit approval.

  B. Factoring, pledging, and electronic funds transfers.

  C. Cash discounts, collection agencies, and electronic funds transfers.

  D. Trade discounts, cash discounts, and electronic funds transfers.

  Correct Answer: C

  Choice "c" is correct. The following are methods of converting accounts receivable (AR) into cash:

  1.

  Collection agencies - used to collect overdue AR.

  2.

  Factoring AR - selling AR to a factor for cash.

  3.

  Cash discounts - offering cash discounts to customers for paying AR quickly (or paying at all). For example: 2/10, net 30.

  4.

  Electronic fund transfers - a method of payment, which electronically transfers funds between banks.

  Therefore, only choice "c" matches the above list.

  Choice "a" is incorrect. Trade discounts offer discounts on future merchandise purchases offered to trade

  customers. These discounts do not turn AR into cash.

  Choice "b" is incorrect. Pledging AR as collateral on a loan does not convert AR into cash.

  Choice "d" is incorrect, per choice for "a" above.