Lecture 24 Loan Securitization – Market Risk Chap 26, Chap 17 -19, Chap 10 1.
Chap 006
-
Upload
monica-reyes -
Category
Documents
-
view
60 -
download
0
Transcript of Chap 006
![Page 1: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/1.jpg)
Chapter
McGraw-Hill/Irwin
Copyright © 2009 by The McGraw-Hill Companies, Inc. All rights reserved.
Working Capital and the Financing Decision6
![Page 2: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/2.jpg)
6-2
Chapter Outline
• Working capital management
• Current asset management
• Asset financing
• Long-term versus short-term financing
• Risk and profitability vis-à-vis asset financing
• Expected value analysis may sometimes be employed
![Page 3: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/3.jpg)
6-3
Working Capital Management
• The financing and management of the current assets of a firm– Crucial to achieving long-term objectives of the
firm or its failure– Requires immediate action
![Page 4: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/4.jpg)
6-4
The Nature of Asset Growth
• Effective current assets management requires matching of the forecasted sales and production schedules
• Differences in actual sales and forecasted sales can result in:– Unexpected buildup.– Reduction in inventory, affecting receivables and
cash flow• Firm’s current assets could be:
– Self-liquidating– ‘Permanent’ current assets.
![Page 5: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/5.jpg)
6-5
The Nature of Asset Growth (cont’d)
![Page 6: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/6.jpg)
6-6
Controlling Assets – Matching Sales and Production
• Fixed assets grow slowly with:– Increase in productive capacity– Replacement of old equipment
• Current assets fluctuate in the short run, depending on:– Level of production versus the level of sales
• When production is higher than sales the inventory rises
• When sales are higher than production, inventory declines and receivables increase
![Page 7: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/7.jpg)
6-7
Controlling Assets – Matching Sales and Production (cont’d)
• Cash budgeting process– Level production method
• Smooth production schedules• Use of manpower and equipment efficiently to lower
cost
– Match sales and production as closely as possible in the short run
• Allows current assets to increase or decrease with the level of sales
• Eliminates the large seasonal bulges or sharp reductions in current assets
![Page 8: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/8.jpg)
6-8
Matching Sales and Production-McGraw-Hill Companies, Inc.
• A good example of seasonal sale
• Has significant share of sales and earnings in the third and fourth quarters
• Due to seasonal nature of textbook publishing– Lenders and financial managers need to plan
inventory – Lack of correct inventory planning can lead to
lost sales
![Page 9: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/9.jpg)
6-9
Quarterly Sales and Earnings Per Share for McGraw Hill
![Page 10: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/10.jpg)
6-10
Seasonal Sales Pattern in Target and Limited Brands
• Like publishers, retail companies do not stock inventory for more then a year
• Fourth quarter is the biggest quarter for retailers
• As per the figure, the Target is growing much faster than the Limited Brands
• Even then, in the fourth quarter, peak earnings are almost equal for both the companies
![Page 11: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/11.jpg)
6-11
Quarterly Sales and Earnings Per Share, Target and Limited Brands
![Page 12: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/12.jpg)
6-12
Point-of-Sales Terminals
• Retail-oriented firms use new, computerized inventory control systems linked online– Digital inputs or optical scanners
• Helps adjust orders or production schedules
– Radio Frequency Identification (RFID)
![Page 13: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/13.jpg)
6-13
Temporary Assets under Level Production – An Example
• Yawakuzi Motorcycle Company – Sales fluctuations: High sales demand during
early spring and summer; sales drop during October through March
– Decision: Apply level production method - 12-month sales forecast is issued
– Result: Level production and seasonal sales combine to produce fluctuating inventory
![Page 14: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/14.jpg)
6-14
Yawakuzi Sales Forecast (in units)
![Page 15: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/15.jpg)
6-15
Yawakuzi’s Production Schedule and Inventory
![Page 16: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/16.jpg)
6-16
Sales Forecasts, Cash Receipts, and Payments, and Cash Budget
![Page 17: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/17.jpg)
6-17
Sales Forecasts, Cash Receipts, and Payments, and Cash Budget (cont’d)• Table 6-3 is created to examine the buildup
in accounts receivable and cash– Sales forecast: Based on assumptions taken
earlier (table 6-1)– Cash receipts: 50% cash collected during the
month of sale and 50% pertains to the prior month
– Cash budget: a comparison of cash receipt and payment schedules to determine cash flow
![Page 18: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/18.jpg)
6-18
Total Current Assets, First Year ($millions)
![Page 19: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/19.jpg)
6-19
Yawakuzi’s Nature of Asset Growth
![Page 20: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/20.jpg)
6-20
Cash Budget and Assets for II Year With No Growth in Sales ($millions)• Graphic presentation of the current asset
cycle.
![Page 21: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/21.jpg)
Exercises
11th Edition – Problem 16
13th Edition – Problem 19
6-21
![Page 22: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/22.jpg)
6-22
Patterns of Financing
• Selection of external sources to fund financial assets is an important decision
• The appropriate financing pattern:– Matching of asset buildup and length of
financing pattern
![Page 23: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/23.jpg)
6-23
Matching Long-Term and Short-Term Needs
![Page 24: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/24.jpg)
6-24
Alternative Plans
• It is important to consider other alternatives– The challenge of constructing a financial plan is
to prioritize the current assets into temporary and permanent
– The exact timing of asset liquidation, even in the light of ascertaining dollar amounts is onerous
– It is also difficult to judge the amount of short-term and long-term financing available
![Page 25: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/25.jpg)
6-25
Long-Term Financing
• Firms can be assured of having adequate capital at all times:– Use long-term capital to cover part of the short-
term needs– Long-term capital can be used to finance:
• Fixed assets• Permanent current assets• Part of the temporary current assets
![Page 26: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/26.jpg)
6-26
Using Long-Term Financing for Part of Short-Term Needs
![Page 27: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/27.jpg)
6-27
Short- Term Financing
• Small businesses do not have total access to long-term financing– They rely on short-term bank and trade credit– Advantage: interest rates are lower– Short-term finances are used to finance:
• Temporary current assets• Part of the permanent working capital needs
![Page 28: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/28.jpg)
6-28
Using Short-Term Financing for Part of Long-Term Needs
![Page 29: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/29.jpg)
6-29
Term Structure of Interest Rates
• A yield curve – that shows the relative level of short-term and long-term interest rates – U.S. government securities are popular as they
are free of default risks– Corporate debt securities entail a higher interest
rate due to more financial risks– Yield curves for both securities change daily to
reflect:• Current competitive conditions• Expected inflation• Changes in economic conditions
![Page 30: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/30.jpg)
6-30
Basic Theories - Yield Curve
• Liquidity premium theory– Long-term rates should be higher than short-
term rates
• Market segmentation theory– Treasury securities are divided into market
segments by the various financial institutions investing in the market
• Expectations hypothesis– Yields on long-term securities is a function of
short-term rates
![Page 31: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/31.jpg)
6-31
Long- and Short-Term Annual Interest Rates
• Relative volatility and the historical level of short-term and long-term rates
![Page 32: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/32.jpg)
6-32
Alternative Financing Plans
• A Decision Process: Comparing alternative financing plans for working capital
![Page 33: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/33.jpg)
6-33
Impact of Financing Plans on Earnings
![Page 34: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/34.jpg)
6-34
Varying Condition and its Impact
• Tight money periods– Capital is scarce making short-term financing
difficult to find or may ensue very high rates– Inadequate financing may mean loss of sales or
financial embarrassment
• Expected value– Represents the sum of the expected outcomes
under both conditions
![Page 35: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/35.jpg)
6-35
Expected Returns under Different Economic Conditions
![Page 36: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/36.jpg)
6-36
Expected Returns for High Risk Firms
![Page 37: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/37.jpg)
6-37
Toward an Optimal Policy
• A firm should:– Attempt to relate asset liquidity to financing
patterns, and vice versa– Decide how it wishes to combine asset liquidity
and financing needs• Risk-oriented firm - short-term borrowings and low
degree of liquidity• Conservative firm - long-term financing and high
degree of liquidity
![Page 38: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/38.jpg)
6-38
Net working capital as a percentage of sales—S&P Industrials
![Page 39: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/39.jpg)
6-39
Asset Liquidity and Financing Assets
![Page 40: Chap 006](https://reader033.fdocuments.in/reader033/viewer/2022051212/557210af497959fc0b8d8baf/html5/thumbnails/40.jpg)
Exercises:
11th Edition – 1, 10, 20
13th Edition – 1, 13, 17
6-40