A retail mail order entity currently uses a central collection system that requires all checks to be sent to its headquarters. An average of 6 days is required for mailed checks to be received. 3 days for the entity to process them, and 2 days for the checks to clear through the bank. A proposed lockbox system would reduce the mailing and processing time to 2 days and the check clearing time to 1 day. The entity has an average daily collection of US $150,000. How much will the average cash balance increase by if the entity adopts the lockbox system?
Answer(s): A
Checks are currently tied up for 11 days 6 for mailing, 3 for processing, and 2 for clearing). If that period were reduced to 3 days the entity's cash balance would increase by US $1.200.000 $150,000 per day x 8 days).
Assume that each day an entity writes and receives checks totaling US $10,000. If it takes5 days for the checks to clear and be deducted from the entity's account and only 4 days for the deposits to clear, what is the float?
The float period is the time between when a check is written and when it clears the payer's checking account. Check float results in an interest-free loan to the payer because of the delay between payment by check and its deduction from the bank account. If checks written require one more day to clear than checks received, the net float equals one day's receipts. The entity will have free use of the money for one day_ In this case, the amount is US $10,000.
An entity obtained a short-term bank loan of US $250,000 at an annual interest rate of 6%. As a condition of the loan, the entity is required to maintain a compensating balance of US $50,000 in its checking account. The entity's checking account earns interest at an annual rate of 2 %. Ordinarily, the entity maintains a balance of US $25,000 in its checking account for transaction purposes.What is the effective interest rate of the loan?
The US $50,000 compensating balance requirement is partially satisfied by the entity's practice of maintaining a US $25,000 balance for transaction purposes. Thus, only US $25,000 of the loan will not be available for current use, leaving US $225,000 of the loan usable. At 6% interest, the US $250,000 loan would require an interest payment of US $15,000 per year. This is partially offset by the 2% interest earned on the US $25,000 incremental balance, or US $500. Subtracting the US $500 interest earned from the US $15,000 of expense results in net interest expense of US $14,500 for the use of US $225.000 in funds. Dividing US $14,500 by US $225,000 produces an effective interest rate of 6.44%.
Which one of the following is not a characteristic of a negotiable certificate of deposit?Negotiable certificates of deposit
Answer(s): D
A certificate of deposit CD) is a form of savings deposit that cannot be withdrawn before maturity without incurring a high penalty. A negotiable CD can be traded. CDs usually have a fairly high rate of return compared with other savings instruments because they are for fixed, usually long- term periods.
An entity has daily cash receipts of US $300,000. A bank has offered to provide a lockbox service that will reduce the collection time by 3 days. The bank requires a monthly fee of US $2,000 for providing this service. If money market rates are expected to average 6% during the year, the additional annual income loss) of using the lockbox service is:
Answer(s): C
Because collections will be accelerated by 3 days at a rate of US $300,000 per days, the entity will have an additional US $900,000 to invest. At a rate of 6%, the interest earned will be US $54,000 per year. However, the bank will charge US $24,000 $2,000 per month x 12 months) for its services. Thus, the entity will increase its income by US $30,000 54,000 - $24,000).
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