FIN 540 – Homework Chapter 28

Directions: Answer the following five questions on a separate document. Explain how you reached the answer or show your work if a mathematical calculation is needed, or both. Submit your assignment using the assignment link in the course shell. Each question is worth five points apiece for a total of 25 points for this homework assignment.

1. Which of the following would cause average inventory holdings to decrease, other things held constant? a. The purchase price of inventory items decreases by 50 percent. b. The carrying price of an item decreases (as a percent of purchase price). c. The sales forecast is revised downward by 10 percent. d. Interest rates fall. e. Fixed order costs double.

2. During times of inflation, which of these inventory accounting methods is best for cash flow? a. LIFO, because the most expensive goods are recorded as being sold first, resulting in a higher cost of goods sold and a lower reported net income. b. Specific identification, because it correctly identifies the actual item sold and so the actual cost is recorded on the income statement. c. Weighted average, because it smoothes the reported cost of goods sold over time. d. It doesn’t matter which you use since cash flow is unaffected by the choice of inventory identification method. e. FIFO, because the cheapest goods are recorded as being sold first, resulting in lower cost of goods sold and higher reported net income.

3. Which of the following is true of the Baumol model? Note that the optimal cash transfer amount is C*. a. If the total amount of cash needed during the year increases by 20%, then C* will increase by 20%. b. If the average cash balance increases by 20%, then the total holding costs will increase by 20%. c. If the average cash balance increases by 20% the total transactions costs will increase by 20%. d. The optimal transfer amount is the same for all companies. e. If the fixed costs of selling securities or obtaining a loan (cost per transaction) increase by 20%, then C* will increase by 20%.

4. Which of the following is true of the EOQ model? Note that the optimal order quantity, Q, will be called EOQ. a. If the annual sales, in units, increases by 20%, then EOQ will increase by 20%. b. If the average inventory increases by 20%, then the total carrying costs will increase by 20%. c. If the average inventory increases by 20% the total order costs will increase by 20%. d. The EOC is the same for all companies. e. If the fixed per order cost increases by 20%, then EOQ will increase by 20%.

5. Halliday Inc. receives a $2 million payment once a year. Of this amount, $700,000 is needed for cash payments made during the next year. Each time Halliday deposits money in its account, a charge of $2.00 is assessed to cover clerical costs. If Halliday can hold marketable securities that yield 5 percent, and then convert these securities to cash at a cost of only the $2 deposit charge, what is the total cost for one year of holding the minimum cost cash balance according to the Baumol model? a. $7,483 b. $187 c. $3,741 d. $374 e. $748

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