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CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS (2/5) 20th October 2008 @ 4pm

CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS (2/5) 20th October 2008 @ 4pm. CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS. E-mail: GRZEGORZ.MICHALSKI@UE.WROC.PL www: HTTP://MICHALSKIG.UE.WROC.PL/ ph .: 0 048 717183313 Next lecture: 27th October 2008.

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CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS (2/5) 20th October 2008 @ 4pm

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  1. CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS(2/5)20th October 2008 @ 4pm

  2. CURRENT ASSETS MANAGEMENT: VALUE BASED WORKING CAPITAL DECISIONS • E-mail: GRZEGORZ.MICHALSKI@UE.WROC.PL • www: HTTP://MICHALSKIG.UE.WROC.PL/ • ph.: 0048717183313 • Next lecture: 27th October 2008.

  3. Cash cycle & Operating Cycle

  4. How changes in curent assets influence value? CS: Inventory period = 35 days, Accounts receivable period = 26 days, accounts payable period = 20 days, Cash Revenues = 1234, T=19%, calculate: • Assets, if FA = 800 • Capital Involved • FCF0, FCF1-n, FCFn • IRR • Cost of Capital if D/(D+E) = 40%, kd = 13% & ke = 34%. • NPV What will change if IP is shorter? Longer? What will change if ARP is shorter? Longer? What will change if APP is shorter? Longer?

  5. Liquid assets level & Firm Value n n

  6. Liquidity level & Profitability

  7. Liquidity level & Value of Liquidity Where: vi = intrinsic (internal) value of liquidity, vm = market value of liquidity, pp1 = liquidity level (1) for vi > vm ppopt = optimal liquidity level for vi = vm

  8. Liquidity level & Value of Liquidity Where: vi = intrinsic (internal) value of liquidity, vm = market value of liquidity, pp2 = liquidity level (2) for vi < vm ppopt = optimal liquidity level for vi = vm

  9. Liquidity measurement • current ratio: current assets to current liabilities Example: Calculate Current Ratio if: Inventory = 60, Accounts receivable = 80; Accounts payable = 50; Cash and near cash = 4

  10. Liquidity measurement • quick ratio is current assets without inventories to current liabilities Example: Calculate Quick Ratio if: Inventory = 60, Accounts receivable = 80; Accounts payable = 50; Cash and near cash = 4

  11. Short-term Financial decisions – NWC policies.Flexible or Restrictive policy • The size of the firm’s investment in current assets is determined by its NWC financial policies. • Flexible policy actions include: • keeping large cash and securities’ balances; • keeping large amounts of inventory; • granting liberal credit terms. • Restrictive policy actions include: • keeping low cash and securities’ balances; • keeping small amounts of inventory; • allowing few or no credit sales.

  12. Costs of Investments in Working Capital • Need to manage the trade-off between carrying costs and shortage costs. • Carrying costs increase with the level of investment in current assets, and include the costs of maintaining economic value and opportunity costs. • Shortage costs decrease with increases in the level of investment in current assets, and include trading costs and the costs related to being short of the current asset. • For example, sales lost as a result of a shortage of finished goods inventory.

  13. Working Capital [WC] & WC financing Alternative Asset Financing Policies

  14. Working Capital [WC] & WC financing Alternative Asset Financing Policies

  15. Working Capital [WC] & WC financing Alternative Asset Financing Policies

  16. Example NWC-1a.

  17. Example NWC-2.

  18. Example NWC-1b • What will change if: • Long-term debt share in aggressive strategy = 35% with long-term debt rate = 11% and short-term debt = 9% and with equity cost rate 28% • Long-term debt share in compromise strategy = 75% with long-term debt rate = 10% and short-term debt = 8% and with equity cost rate 26% • Long-term debt share in conservative strategy = 95% with long-term debt rate = 9,5% and short-term debt = 7,5% and with equity cost rate 24,5%

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