Question

City Farm Insurance has collection centers across the country to speed up collections. The company also makes its disbursements from remote disbursement centers, so the firm's checks will take longer to clear the bank. Collection time has been reduced by three and one-half days and disbursement time increased by two days because of these policies. Excess funds are being invested in short-term instruments yielding 4 percent per annum.

a. If City Farm has $4.80 million per day in collections and $3.80 million per day in disbursements, how many dollars has the cash management system freed up? (Enter your answer in dollars not in millions (e.g., $1,234,567).)

b. How much can City Farm earn in dollars per year on short-term investments made possible by the freed-up cash? (Enter your answer in dollars not in millions (e.g., $1,234,567).)

Answer 1

(a) Dollars freed up due to reduction of collection time=

Per day collection * Number of days reduced

= 4,800,000*3.5=16,800,000

Similarly Dollars freed up due to increase in disbursement time

=3,800,000*2=7,600,000

Total Dollars freed up due to change in policy

= 16,800,000+7,600,000=24,400,000

(b) Dollars earned per year due to free up cash

= Interest rate * Freed up cash

=4% of 24,400,000=976,000