Question

International Finance Problem Set on Working Capital Management1. Rossignol Co. manufactures and sells skis and snowboards in France, Switzerland and Italy, and also maintains a corporate account in Frankfurt, Germany. Rossignol has been setting separate operating cash balances in each country at a level equal to expected cash needs plus two standard deviations above those needs, based on a statistical analysis of cash flow volatility. Expected operating cash needs and one standard deviation of those needs are below.Rossignol’s Frankfurt bank suggests that the same level of safety could be maintained if all precautionary balances were combined in a central account at the Frankfurt headquarters.a. How much lower would Rossignol’s total cash balances be if all precautionary balances were combined? Assume cash needs in each country are normally distributed and are independent of each other.b. How much would the company save annually, if financing costs are 6% p.a., from centralizing its cash holdings?

Answer 1

Answer:

Consider the following explanation

Explanation:

Please note that if cash requirements are combined, mean requirement of combined entity can be simply summed up, but same is not true for standard deviation as it is not additive.

So first we need to calculate the variance by taking square of SD, then we sum it for all the location to get variance of combined entity and then we take square root again to get the SD of combined entity.

Keep in mind that we can take a simple summation of variance due to the fact that requirement in different locations are independent of each other and their correlation coefficient is = 0.

Solution is given through following image sheet -