Principles of Managerial Finance, 12e (Gitman)
Chapter 14 Working Capital and Current Assets Management
Learning Goal 1: Understand short-term financial management, net working capital,
and the related tradeoff between profitability and risk.
1) A firm that is unable to pay its bills as they come due is technically insolvent.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
2) Short-term financial management is concerned with management of the firm's current assets
and current liabilities.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
3) The goal of short-term financial management is to manage each of the firm's current assets
and current liabilities in order to achieve a balance between profitability and risk that
contributes to the firm's value.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
4) Working capital represents refers to a firm's long term capital.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
5) In general, the greater a firm's current assets relative to its short-term obligations, the better
able it will be to pay its bills as they come due.
Answer: TRUE
Topic: Working Capital Management
Question Status: Previous Edition
6) The more predictable a firm's cash inflows, the more net working capital it will need.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
7) As the ratio of current assets to total assets increases, the firm's risk increases.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
8) Because firms are unable to match cash inflows to outflows with certainty, most of them
need current liabilities that more than cover outflows for current assets.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
1
, 9) Too much investment in current assets reduces firm profitability, whereas too little
investment in current assets increases the risk of not being able to pay debts as they come
due.
Answer: TRUE
Topic: Trade-off Between Profitability and Risk
Question Status: Previous Edition
10) Business risk is the risk of being unable to make the scheduled fixed financing payments on
debt and preferred stock.
Answer: FALSE
Topic: Business Risk
Question Status: Previous Edition
11) Net working capital can be defined as the portion of the firm's current assets financed with
long-term funds.
Answer: TRUE
Topic: Net Working Capital
Question Status: Previous Edition
12) A firm is said to be technically insolvent when its total assets is less than its total liabilities
and stockholders' equity.
Answer: FALSE
Topic: Technical Insolvency
Question Status: Previous Edition
13) An increase in current assets increases net working capital, thereby reducing the risk of
technical insolvency.
Answer: TRUE
Topic: Technical Insolvency
Question Status: Previous Edition
14) The effect of a decrease in the ratio of current assets to total assets and the effect of an
increase in the ratio of current liabilities to total assets are increases in the firm's profits and,
correspondingly, its risk.
Answer: TRUE
Topic: Trade-off Between Profitability and Risk
Question Status: Previous Edition
15) Net working capital is defined as
A) a ratio measure of liquidity best used in cross-sectional analysis.
B) the portion of the firm's assets financed with short-term funds.
C) current liabilities minus current assets.
D) current assets minus current liabilities.
Answer: D
Topic: Net Working Capital
Question Status: Previous Edition
2
,16) The portion of a firm's current assets financed with long-term funds may be called
A) working capital.
B) accounts receivable.
C) net working capital.
D) inventory.
Answer: C
Topic: Net Working Capital
Question Status: Previous Edition
17) In working capital management, risk is measured by the probability that a firm will become
A) liquid.
B) technically insolvent.
C) unable to meet long-term obligations.
D) less profitable.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
18) The conversion of current assets from inventory to receivables to cash provides the ________
of cash used to pay the current liabilities, which represents a(n) ________ of cash.
A) outflow; inflow
B) use; source
C) source; use
D) inflow; outflow
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
19) The goal of working capital management is to
A) balance current assets against current liabilities.
B) pay off short-term debts.
C) achieve a balance between risk and return in order to maximize the firm's value.
D) achieve a balance between short-term and long-term assets so that they add to the
achievement of the firm's overall goals.
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
20) Current liabilities can be viewed as
A) debts that mature in one year or less.
B) debts that mature in more than one year.
C) sources of cash inflows.
D) none of the above
Answer: A
Topic: Working Capital Management
Question Status: Previous Edition
3
, 21) The most difficult set of accounts to predict are
A) current assets.
B) stockholder's equity.
C) fixed assets.
D) long-term debt.
Answer: A
Topic: Working Capital Management
Question Status: Previous Edition
22) In general, the more net working capital a firm has,
A) the greater its risk.
B) the lower its risk.
C) the less likely are creditors to lend to the firm.
D) the lower its level of long-term funds.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
23) A(n) ________ in current assets ________ net working capital, thereby ________ the risk of
technical insolvency.
A) decrease; increases; increasing
B) increase; decreases; increasing
C) increase; increases; reducing
D) decrease; decreases; reducing
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
24) A(n) ________ in current liabilities ________ net working capital, thereby ________ the risk of
technical insolvency.
A) decrease; increases; increasing
B) increase; decreases; increasing
C) increase; increases; reducing
D) decrease; decreases; reducing
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
25) When a portion of the firm's fixed assets are financed with current liabilities, the firm
A) has positive net working capital.
B) has negative net working capital.
C) has excessive amounts of current assets.
D) is in a low-risk position.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
4
Chapter 14 Working Capital and Current Assets Management
Learning Goal 1: Understand short-term financial management, net working capital,
and the related tradeoff between profitability and risk.
1) A firm that is unable to pay its bills as they come due is technically insolvent.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
2) Short-term financial management is concerned with management of the firm's current assets
and current liabilities.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
3) The goal of short-term financial management is to manage each of the firm's current assets
and current liabilities in order to achieve a balance between profitability and risk that
contributes to the firm's value.
Answer: TRUE
Topic: Basics of Short-Term Financial Management
Question Status: Previous Edition
4) Working capital represents refers to a firm's long term capital.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
5) In general, the greater a firm's current assets relative to its short-term obligations, the better
able it will be to pay its bills as they come due.
Answer: TRUE
Topic: Working Capital Management
Question Status: Previous Edition
6) The more predictable a firm's cash inflows, the more net working capital it will need.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
7) As the ratio of current assets to total assets increases, the firm's risk increases.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
8) Because firms are unable to match cash inflows to outflows with certainty, most of them
need current liabilities that more than cover outflows for current assets.
Answer: FALSE
Topic: Working Capital Management
Question Status: Previous Edition
1
, 9) Too much investment in current assets reduces firm profitability, whereas too little
investment in current assets increases the risk of not being able to pay debts as they come
due.
Answer: TRUE
Topic: Trade-off Between Profitability and Risk
Question Status: Previous Edition
10) Business risk is the risk of being unable to make the scheduled fixed financing payments on
debt and preferred stock.
Answer: FALSE
Topic: Business Risk
Question Status: Previous Edition
11) Net working capital can be defined as the portion of the firm's current assets financed with
long-term funds.
Answer: TRUE
Topic: Net Working Capital
Question Status: Previous Edition
12) A firm is said to be technically insolvent when its total assets is less than its total liabilities
and stockholders' equity.
Answer: FALSE
Topic: Technical Insolvency
Question Status: Previous Edition
13) An increase in current assets increases net working capital, thereby reducing the risk of
technical insolvency.
Answer: TRUE
Topic: Technical Insolvency
Question Status: Previous Edition
14) The effect of a decrease in the ratio of current assets to total assets and the effect of an
increase in the ratio of current liabilities to total assets are increases in the firm's profits and,
correspondingly, its risk.
Answer: TRUE
Topic: Trade-off Between Profitability and Risk
Question Status: Previous Edition
15) Net working capital is defined as
A) a ratio measure of liquidity best used in cross-sectional analysis.
B) the portion of the firm's assets financed with short-term funds.
C) current liabilities minus current assets.
D) current assets minus current liabilities.
Answer: D
Topic: Net Working Capital
Question Status: Previous Edition
2
,16) The portion of a firm's current assets financed with long-term funds may be called
A) working capital.
B) accounts receivable.
C) net working capital.
D) inventory.
Answer: C
Topic: Net Working Capital
Question Status: Previous Edition
17) In working capital management, risk is measured by the probability that a firm will become
A) liquid.
B) technically insolvent.
C) unable to meet long-term obligations.
D) less profitable.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
18) The conversion of current assets from inventory to receivables to cash provides the ________
of cash used to pay the current liabilities, which represents a(n) ________ of cash.
A) outflow; inflow
B) use; source
C) source; use
D) inflow; outflow
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
19) The goal of working capital management is to
A) balance current assets against current liabilities.
B) pay off short-term debts.
C) achieve a balance between risk and return in order to maximize the firm's value.
D) achieve a balance between short-term and long-term assets so that they add to the
achievement of the firm's overall goals.
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
20) Current liabilities can be viewed as
A) debts that mature in one year or less.
B) debts that mature in more than one year.
C) sources of cash inflows.
D) none of the above
Answer: A
Topic: Working Capital Management
Question Status: Previous Edition
3
, 21) The most difficult set of accounts to predict are
A) current assets.
B) stockholder's equity.
C) fixed assets.
D) long-term debt.
Answer: A
Topic: Working Capital Management
Question Status: Previous Edition
22) In general, the more net working capital a firm has,
A) the greater its risk.
B) the lower its risk.
C) the less likely are creditors to lend to the firm.
D) the lower its level of long-term funds.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
23) A(n) ________ in current assets ________ net working capital, thereby ________ the risk of
technical insolvency.
A) decrease; increases; increasing
B) increase; decreases; increasing
C) increase; increases; reducing
D) decrease; decreases; reducing
Answer: C
Topic: Working Capital Management
Question Status: Previous Edition
24) A(n) ________ in current liabilities ________ net working capital, thereby ________ the risk of
technical insolvency.
A) decrease; increases; increasing
B) increase; decreases; increasing
C) increase; increases; reducing
D) decrease; decreases; reducing
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
25) When a portion of the firm's fixed assets are financed with current liabilities, the firm
A) has positive net working capital.
B) has negative net working capital.
C) has excessive amounts of current assets.
D) is in a low-risk position.
Answer: B
Topic: Working Capital Management
Question Status: Previous Edition
4
