Question 1
Multiple ChoiceWhich of the following would most likely be classified as a non-recurring source of liquidity for a business?
Explanation
Selling inventory to raise cash is a secondary or non-recurring source of liquidity because it is not a sustainable, ongoing method for meeting short-term obligations. In contrast, trade credit and revolving credit facilities are considered primary sources of liquidity, as they are typically available on a recurring basis and are part of a firm’s regular cash management practices.
Question 2
Multiple ChoiceWhich of the following scenarios is most likely to create a delay in cash inflows, negatively affecting a company’s short-term liquidity?
Explanation
Extending credit terms from “net 30” to “net 40” gives customers more time to pay, which delays cash inflows and increases accounts receivable. This creates a drag on liquidity, as the company must wait longer to collect cash. The other options either improve inflows or relate to outflows and are not considered drags on liquidity.
Question 3
Multiple ChoiceA company previously offered customers payment terms of net 30, meaning invoices were due in full within 30 days. Recently, the company revised its policy to net 40, giving customers 10 additional days to pay. Assuming no other changes to operations, what is the most likely impact of this change?
Explanation
Changing payment terms from net 30 to net 40 allows customers to pay later, which slows the inflow of cash and increases accounts receivable. This results in a drag on liquidity, as the company must wait longer to receive payment, thereby extending the cash conversion cycle and potentially straining short-term cash needs.
Question 4
Multiple ChoiceWhich of the following changes would most likely lead to a shorter cash conversion cycle for a company?
Explanation
The cash conversion cycle (CCC) is calculated as:
CCC = Days Sales Outstanding + Days Inventory on Hand – Days Payables Outstanding
An increase in days payable outstanding shortens the CCC because the company holds on to its cash longer before paying suppliers. In contrast, increases in receivables or inventory days extend the time it takes to convert investments into cash, lengthening the cycle.
Question 5
Multiple ChoiceData for Riverbend Tools Ltd. are presented in the following table:
As of 31 December | £ Thousands |
|---|---|
Cash | 150 |
Accounts receivable | 400 |
Inventory | 1,000 |
Accounts payable | 250 |
Wages payable | 100 |
Short-term loan payable (due in two equal annual payments, first due in 6 months) | 300 |
The current ratio for the firm’s industry is 3.0. Based on the current ratio, Riverbend Tools' liquidity compared with the industry is best described as being:
Explanation
Step 1: What is the current ratio?
The current ratio shows how well a company can pay its short-term debts using its short-term assets.
Formula:
Current Ratio = Current Assets ÷ Current Liabilities
Step 2: What are Riverbend’s current assets?
These are things the company expects to turn into cash soon:
Cash = £150
Accounts receivable = £400 (money customers owe)
Inventory = £1,000 (goods to sell)
Total current assets = 150 + 400 + 1,000 = £1,550
Step 3: What are Riverbend’s current liabilities?
These are short-term debts the company must pay within a year:
Accounts payable = £250 (money owed to suppliers)
Wages payable = £100 (money owed to employees)
Short-term loan payment = £150 (the first half of a 2-year loan)
Total current liabilities = 250 + 100 + 150 = £500
Step 4: Calculate Riverbend’s current ratio
Current Ratio = £1,550 ÷ £500 = 3.1
Step 5: Compare to the industry average
Riverbend’s current ratio = 3.1
Industry average = 3.0
Since 3.1 is higher than 3.0, Riverbend has more liquidity than the average company in its industry.
Question 6
Multiple ChoiceAn analyst reviews the following balance sheet information for three companies:
Item (£ Thousands) | Company A | Company B | Company C |
|---|---|---|---|
Cash | 90 | 120 | 60 |
Marketable Securities | 10 | 30 | 20 |
Accounts Receivable | 200 | 250 | 180 |
Inventory | 400 | 300 | 350 |
Prepaid Expenses | 30 | 10 | 0 |
Accounts Payable | 220 | 260 | 200 |
Accrued Expenses | 30 | 40 | 20 |
Based on the quick ratio, which company is the most liquid?
Explanation
The quick ratio measures a company’s ability to cover short-term obligations using only the most liquid current assets (excluding inventory and prepaid expenses).
Quick Ratio Formula:
Quick Ratio = (Cash + Marketable Securities + Accounts Receivable) ÷ (Accounts Payable + Accrued Expenses)
Company A:
Quick Assets = 90 + 10 + 200 = 300
Current Liabilities = 220 + 30 = 250
Quick Ratio = 300 ÷ 250 = 1.20
Company B:
Quick Assets = 120 + 30 + 250 = 400
Current Liabilities = 260 + 40 = 300
Quick Ratio = 400 ÷ 300 = 1.33
Company C:
Quick Assets = 60 + 20 + 180 = 260
Current Liabilities = 200 + 20 = 220
Quick Ratio = 260 ÷ 220 = 1.18
Question 7
Multiple ChoiceWhich of the following most accurately explains how a company could report a negative cash conversion cycle?
Explanation
A negative cash conversion cycle occurs when a company collects cash from customers before it has to pay its suppliers. This is possible when:
Inventory moves quickly (low days inventory on hand)
Customers pay quickly (low days sales outstanding)
Suppliers offer generous payment terms (high days payable outstanding)
This combination allows a firm to operate using vendor financing, freeing up working capital and improving liquidity. Holding more cash or marketable securities does not affect the cash conversion cycle directly.
Question 8
Multiple ChoiceWhich of the following is the most likely impact on a company's liquidity if it removes an early payment discount offered to customers?
Explanation
When a company removes a prompt-payment discount (such as 2/10, net 30), customers are less motivated to pay early and will likely wait until the full due date. This delays cash inflows and increases accounts receivable days, creating a drag on liquidity. While the company may collect slightly more per invoice, slower cash collection reduces its ability to cover short-term obligations.