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KASNEB DCM practice questions

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Question 1Credit Management

In credit assessment, the 'character' of a prospective customer refers to the customer's willingness and record of paying debts, which is best evidenced by which of the following?

  1. The assets the customer can pledge as security
  2. The customer's willingness and record of paying debts Correct answer.
  3. The customer's ability to generate cash flow from operations
  4. The economic conditions prevailing in the customer's industry

Explanation

Character is the borrower's integrity and demonstrated commitment to honour obligations, usually judged from past payment history and trade references. The other four Cs cover different dimensions: capacity addresses cash flow, collateral addresses security and conditions address the external environment.

Question 2Credit Management

A supplier quotes credit terms of '3/15, net 60'. What does this term permit the buyer to do?

  1. Defer all payment for 60 days without any penalty
  2. Deduct 15% if payment is made within 3 days
  3. Deduct 3% if payment is made within 60 days
  4. Deduct 3% if payment is made within 15 days Correct answer.

Explanation

The notation reads as discount rate / discount period, net / full-credit period. The buyer may deduct 3% from the invoice value by paying within 15 days, otherwise the full amount falls due on day 60.

Question 3Credit Management

The primary objective of a firm's credit management function is to achieve which of the following?

  1. Maximise the volume of credit sales regardless of risk
  2. Eliminate all credit sales in favour of cash sales
  3. Balance sales growth against the cost of credit risk Correct answer.
  4. Ensure every customer is granted the maximum credit limit

Explanation

Credit management seeks an optimal level of receivables investment, where the marginal profit from extra credit sales equals the marginal cost of carrying receivables and bad debts. Neither maximum sales nor zero credit achieves this optimum.

Question 4Credit Management

An aging schedule of accounts receivable is primarily prepared in order to do which of the following?

  1. Calculate the interest payable on overdue accounts
  2. Show how long debts have been outstanding by age band Correct answer.
  3. Determine the selling price of goods sold on credit
  4. Rank customers according to their annual purchase volume

Explanation

An aging schedule classifies receivables by the length of time they have been outstanding, such as 0-30, 31-60 and 61-90 days. It highlights the proportion of balances that are overdue and guides collection effort.

Question 5Credit Management

A credit limit granted to a customer is best described as which of the following?

  1. The total value of invoices issued during a year
  2. The period allowed before payment becomes due
  3. The interest rate charged on overdue accounts
  4. The maximum credit balance allowed at any time Correct answer.

Explanation

A credit limit caps the aggregate outstanding balance the customer may have at any point, covering unpaid invoices and outstanding orders. It is a risk control, not a measure of annual turnover or a payment term.

Question 6Credit Management

Trade credit is best defined as which of the following?

  1. Credit granted by a buyer to a supplier in advance
  2. A loan advanced by a commercial bank to a supplier
  3. Credit extended by a supplier to a buyer of goods Correct answer.
  4. Finance obtained by a company issuing commercial paper

Explanation

Trade credit arises when a supplier delivers goods or services and allows the buyer to pay later. It is a short-term source of finance embedded in the trading relationship rather than a bank facility or market instrument.

Question 7Credit Management

When receivables are factored on a non-recourse basis, the risk of bad debts is borne by which party?

  1. The customer whose account is factored
  2. The seller's own commercial bank
  3. The seller of the receivables
  4. The factor purchasing the receivables Correct answer.

Explanation

Under non-recourse factoring the factor accepts the credit risk, so it cannot reclaim amounts from the client if the customer fails to pay. With recourse factoring, by contrast, the loss remains with the seller.

Question 8Credit Management

A new customer applying for a credit account is normally required to complete which document first?

  1. A delivery note
  2. A purchase order only
  3. A bank statement only
  4. A credit application form Correct answer.

Explanation

The credit application form captures the customer's legal identity, financial details, trade references and consent checks, forming the basis of the credit assessment. Supporting documents such as bank statements are usually attached to it.

Question 9Credit Management

A supplier offers terms of 2/10, net 60. The approximate annualised cost to the buyer of forgoing the cash discount is closest to which of the following?

  1. 15% Correct answer.
  2. 37%
  3. 12%
  4. 2%

Explanation

The cost of forgoing the discount equals (d/(1-d)) x (365/N), where N is the extra days of credit obtained. Here (0.02/0.98) x (365/50) gives approximately 14.9%, rounded to 15%.

Question 10Credit Management

Within the five Cs framework, 'capacity' most closely refers to the customer's ability to do which of the following?

  1. Generate cash to service debt as it falls due Correct answer.
  2. Honour debts out of integrity and good faith
  3. Pledge assets as security for the facility
  4. Remain stable through economic cycles

Explanation

Capacity is assessed from the borrower's cash flow and earnings record, since debt must ultimately be repaid from operating cash. Integrity is character, pledged assets are collateral and cyclical resilience is conditions.

Question 11Credit Management

Taking collateral against a credit facility principally achieves which of the following?

  1. Reduces the loss suffered if the customer defaults Correct answer.
  2. Removes the need to assess the customer's solvency
  3. Guarantees full recovery of the amount owed
  4. Increases the customer's profit margin on the sale

Explanation

Collateral provides a secondary source of repayment, lowering loss given default and hence the expected loss on the exposure. It supplements rather than replaces the assessment of the customer's ability to pay.

Question 12Credit Management

Which of the following is a typical early warning signal that a customer's creditworthiness is deteriorating?

  1. Payments made consistently before the due date
  2. A steadily rising gross profit margin
  3. Frequent requests to extend payment dates Correct answer.
  4. Larger order volumes paid promptly

Explanation

Repeated requests for extended terms, part payments and broken promises indicate liquidity strain before a formal default occurs. Prompt payment, improving margins and growing settled volume are positive rather than negative indicators.

Question 13Credit Management

A key limitation of a statistical credit scoring model is that it does which of the following?

  1. Cannot be used alongside financial statements
  2. Cannot process large numbers of applications
  3. Relies on historical data that may not predict future behaviour Correct answer.
  4. Is always subjective and inconsistent

Explanation

Scoring models are calibrated on past default experience, so their predictive power weakens when economic conditions or customer behaviour change. Their strengths are speed, consistency and the ability to handle high volumes objectively.

Question 14Credit Management

A provision for doubtful debts is recognised in the accounts in order to achieve which of the following?

  1. Increase the reported net book value of receivables
  2. Match expected credit losses with the related sales Correct answer.
  3. Reduce the amount of tax payable by the firm
  4. Record the cash actually collected during the period

Explanation

The matching principle requires that anticipated losses from credit sales be charged in the same period as the revenue they relate to. This also ensures receivables are stated at their net realisable amount.

Question 15Credit Management

Days sales outstanding (DSO) measures which of the following?

  1. The average time taken to collect receivables Correct answer.
  2. The average time taken to pay trade suppliers
  3. The proportion of sales made on cash terms
  4. The average age of the firm's inventory holding

Explanation

DSO equals receivables divided by average daily credit sales, expressing collection performance in days. A rising DSO signals slower collection and a larger investment in working capital.

Question 16Credit Management

A key benefit of a documentary letter of credit to an exporter is which of the following?

  1. The buyer's bank pays only after the goods are resold
  2. It guarantees the exporter a profit on the sale
  3. It removes all shipping risks from the transaction
  4. The issuing bank substitutes its credit for the buyer's Correct answer.

Explanation

A letter of credit is a bank undertaking to pay against compliant documents, so the exporter looks to the bank's credit standing rather than the buyer's. This substantially reduces commercial credit and country risk.

Question 17Credit Management

Credit insurance taken out by a supplier is designed to protect against which of the following?

  1. Loss arising from a fall in the market price of goods
  2. Loss arising from fluctuations in interest rates
  3. Loss arising from a customer's insolvency or default Correct answer.
  4. Loss arising from theft of goods in transit

Explanation

Credit insurance indemnifies the supplier against non-payment by customers due to insolvency or protracted default, usually up to an agreed percentage of the invoice value. Other perils are covered by separate policies.

Question 18Credit Management

Concentration risk in a receivables portfolio arises when which of the following occurs?

  1. A firm sells to many small customers in different markets
  2. Customers are spread across several unrelated industries
  3. Credit limits are reviewed at regular intervals
  4. A large proportion of receivables is owed by few customers Correct answer.

Explanation

Concentration risk exists where exposure to a single customer, group or sector is large enough that one default would materially harm the firm. Diversification across customers and sectors reduces this risk.

Question 19Credit Management

Under most limitation statutes, a debt that would otherwise be time-barred can be revived by which of the following actions?

  1. Issuing a reminder letter that receives no response
  2. Transferring the account to a different collection officer
  3. Obtaining the debtor's written acknowledgment of the debt Correct answer.
  4. Sending the debtor a routine statement of account

Explanation

A written acknowledgment of the debt, or a part payment, restarts the limitation period because it amounts to a fresh promise to pay. Unilateral reminders and internal administrative steps do not.

Question 20Credit Management

The main purpose of a formal letter of demand in the collection process is to do which of the following?

  1. Suspend the customer's credit limit permanently
  2. Transfer the debt to a credit reference bureau
  3. Record the debt in the firm's financial statements
  4. Give the debtor formal notice before legal action Correct answer.

Explanation

A letter of demand puts the debtor on notice that proceedings will follow unless payment is made within a stated period, and it creates a documentary record of the creditor's claim. It is normally a precondition to litigation.

Question 21Credit Management

In Altman's Z-score model for manufacturing firms, a score of 2.4 falls within which zone?

  1. Growth zone, where the firm is expanding rapidly
  2. Grey zone, where risk is uncertain Correct answer.
  3. Distress zone, where bankruptcy is highly likely
  4. Safe zone, where bankruptcy risk is negligible

Explanation

The original Z-score model sets 2.99 as the upper cut-off and 1.81 as the lower cut-off, with the band between the two treated as the grey or indeterminate zone. A score of 2.4 therefore lies in that uncertain band.

Question 22Credit Management

A bank has exposure at default of KES 10,000,000 on a facility, an estimated probability of default of 4% and a loss given default of 50%. The expected loss is which of the following?

  1. KES 400,000
  2. KES 5,000,000
  3. KES 200,000 Correct answer.
  4. KES 40,000

Explanation

Expected loss is calculated as exposure at default multiplied by probability of default multiplied by loss given default. Here 10,000,000 x 0.04 x 0.50 equals KES 200,000.

Question 23Credit Management

A buyer is offered terms of 2/10, net 60 and can borrow short-term funds at 18% per annum. Which course of action is financially preferable?

  1. Treat both alternatives as financially equivalent
  2. Borrow the funds and take the discount Correct answer.
  3. Forgo the discount because it costs more than borrowing
  4. Always pay on day 60 in order to preserve cash

Explanation

The annualised cost of forgoing the discount is approximately 14.9%, which is below the 18% borrowing rate. Borrowing to pay within the discount period therefore costs less than the discount forgone.

Question 24Credit Management

Which arrangement allows a lender to transfer the credit risk of a loan to a third party while keeping the loan on its own books?

  1. A credit default swap Correct answer.
  2. A retention of title clause
  3. A negative pledge covenant
  4. A set-off clause in the loan agreement

Explanation

In a credit default swap the protection buyer pays a premium and receives compensation if a specified credit event occurs, transferring default risk without selling the underlying asset. The other instruments are contractual protections rather than risk transfers.

Question 25Credit Management

A firm tightens its credit standards by requiring four years of clean payment history instead of two. The most likely combined effect is which of the following?

  1. Lower bad debts and higher sales volume
  2. No change in either bad debts or sales volume
  3. Lower bad debts and lower sales volume Correct answer.
  4. Higher bad debts and higher sales volume

Explanation

Stricter credit standards screen out marginal customers, reducing default losses but also turning away sales that would have been profitable. Credit policy decisions therefore involve a trade-off between risk and volume.

Question 26Credit Management

In a credit agreement, the credit period specifies which of the following?

  1. The maximum value of goods that may be supplied on account
  2. The rate of interest charged on balances that remain unpaid
  3. The time allowed to a customer before payment falls due Correct answer.
  4. The percentage reduction allowed if the invoice is settled early

Explanation

The credit period is the length of time granted to a customer between delivery of goods or services and the date payment becomes due. It is stated in the credit terms, for example 'net 30'. The other items describe a cash discount, a credit limit and a default interest charge respectively.

Question 27Credit Management

An aged receivables analysis is prepared primarily in order to do which of the following?

  1. Determine the selling price of goods supplied on credit
  2. Show how much debt falls into each overdue time band Correct answer.
  3. Calculate the discount to be offered to prompt payers
  4. Record the interest earned on overdue customer accounts

Explanation

Ageing classifies each outstanding invoice according to how long it has been outstanding, typically in 30-day bands. It allows the credit manager to identify slow payers and to estimate the doubtful portion of the ledger. It does not set prices, discounts or interest.

Question 28Credit Management

When vetting a credit applicant, a trade reference is best described as which of the following?

  1. A copy of the applicant's audited financial statements
  2. A named supplier who can confirm the applicant's payment record Correct answer.
  3. A guarantee given by a bank to cover the applicant's debts
  4. A report on the applicant issued by a credit reference bureau

Explanation

A trade reference is another supplier that has dealt with the applicant and can confirm how promptly it pays its accounts. It is direct evidence of payment behaviour obtained from the applicant's own creditors. Bureau reports, bank guarantees and financial statements are different forms of credit evidence.

Question 29Credit Management

Within the five Cs of credit, 'character' refers to which attribute of the customer?

  1. The value of assets pledged to secure the facility
  2. The customer's record of honesty and willingness to pay Correct answer.
  3. The customer's ability to generate cash to repay
  4. The economic conditions affecting the customer's industry

Explanation

Character concerns the customer's integrity, track record and intention to honour its obligations regardless of ability. It is assessed from payment history, references and management reputation. Assets pledged relate to collateral, cash generation to capacity and industry conditions to conditions.

Question 30Credit Management

A customer buys on average KES 600,000 of goods each month and is allowed 30 days' credit. Using one month's purchases as the basis, the appropriate credit limit is:

  1. KES 300,000
  2. KES 600,000 Correct answer.
  3. KES 7,200,000
  4. KES 1,200,000

Explanation

With a 30-day credit period, a customer will typically have about one month's purchases outstanding at any time. The limit should therefore approximate average monthly purchases of KES 600,000. A substantially lower limit would block normal trade, while a much higher limit would allow exposure far beyond the customer's demonstrated purchasing pattern.

Question 31Credit Management

A firm had credit sales of KES 73,000,000 for the year and its closing receivables balance was KES 8,000,000. Using a 365-day year, days sales outstanding is closest to:

  1. 40 days Correct answer.
  2. 10 days
  3. 80 days
  4. 30 days

Explanation

Days sales outstanding equals average receivables divided by credit sales, multiplied by the number of days in the period. Here (8,000,000 / 73,000,000) x 365 gives approximately 40 days. This is the average time customers take to settle their accounts.

Question 32Credit Management

Under invoice discounting, as distinct from full factoring, the client normally does which of the following?

  1. Keeps control of the sales ledger and collects from customers Correct answer.
  2. Transfers the whole ledger to the financier, who collects from customers
  3. Transfers the risk of bad debts to the financier without recourse
  4. Issues invoices in the name of the financier rather than its own name

Explanation

Invoice discounting is a financing arrangement in which the client borrows against approved invoices but continues to administer the ledger and collect from customers in its own name. Full factoring typically transfers ledger administration and collection to the factor. Risk transfer depends on whether the arrangement is with or without recourse.

Question 33Credit Management

A supplier who includes a retention of title clause in its terms of sale is seeking to do which of the following?

  1. Keep legal ownership of the goods until they are paid for in full Correct answer.
  2. Shift liability for damage to the goods to the buyer before delivery
  3. Recover the goods automatically after 30 days regardless of payment
  4. Charge interest on overdue amounts until the goods are paid for

Explanation

A retention of title clause provides that ownership of the goods does not pass to the buyer until the supplier has been paid. If the buyer becomes insolvent, the supplier may be able to reclaim the goods ahead of other creditors. It does not of itself create interest charges or automatic recovery rights.

Question 34Credit Management

A credit reference bureau report on a company applicant is most useful to a supplier because it does which of the following?

  1. Summarises the applicant's borrowing and payment history Correct answer.
  2. Confirms that the applicant's goods are of merchantable quality
  3. Guarantees the supplier against loss if the applicant defaults
  4. Sets the maximum credit limit the supplier may legally grant

Explanation

Bureau reports consolidate information from lenders and other sources on an applicant's borrowings, repayment conduct and any adverse records such as defaults or suits. They support, but do not replace, the supplier's own credit judgement. They provide no guarantee and do not set limits.

Question 35Credit Management

A firm that adopts a much more aggressive policy of chasing overdue accounts should expect which of the following consequences?

  1. Reduced investment in receivables and improved customer goodwill
  2. Lower collection costs and higher sales revenue
  3. Lower bad debts but higher collection costs and lost sales Correct answer.
  4. Higher sales revenue and no change in bad debt losses

Explanation

Tightening collection effort shortens the collection period and reduces bad debt losses, but it raises administration costs and can alienate customers who value flexible terms, causing some sales to be lost. Credit policy therefore involves a trade-off between risk, cost and revenue.

Question 36Credit Management

A supplier extending credit to an overseas buyer is exposed to country risk, which arises mainly from which of the following?

  1. Exchange controls or political turmoil in the buyer's country Correct answer.
  2. The buyer's lack of audited financial statements
  3. The buyer's own history of late payment to domestic suppliers
  4. Fluctuations in the supplier's domestic production costs

Explanation

Country risk is the risk that a foreign buyer cannot remit payment for reasons outside its own control, such as exchange controls, currency shortage, war or political instability. It is distinct from the buyer's own creditworthiness. It is usually mitigated by export credit insurance or confirmed letters of credit.

Question 37Credit Management

A supplier issues a credit note to a customer in respect of returned goods. The effect on the receivables ledger is which of the following?

  1. It reduces the balance owed by the customer Correct answer.
  2. It increases the balance owed by the customer
  3. It transfers the debt to a factoring company
  4. It has no effect until the customer pays the invoice

Explanation

A credit note cancels all or part of a previously raised invoice, for example when goods are returned or a price adjustment is agreed. It is posted to the customer's account as a credit, thereby reducing the amount outstanding. It has no connection with factoring.

Question 38Credit Management

A firm is considering relaxing its credit standards. Incremental sales from the relaxation are expected to be KES 8,000,000, the contribution margin is 25%, and bad debts on the new sales are expected to be 6%. Ignoring the cost of carrying any additional receivables, the net benefit of the relaxation is:

  1. KES 2,000,000
  2. KES 1,040,000
  3. KES 480,000
  4. KES 1,520,000 Correct answer.

Explanation

Relaxing standards adds contribution of 25% x KES 8,000,000 = KES 2,000,000, but incurs bad debts of 6% x KES 8,000,000 = KES 480,000 on the new sales. The net benefit is therefore KES 1,520,000 before any receivables carrying cost. Only contribution, not full sales value, is relevant because variable costs are still incurred.

Question 39Credit Management

Annual credit sales are KES 120,000,000 and the cost of short-term funds is 15%. If days sales outstanding falls from 70 days to 45 days, the annual saving in the cost of carrying receivables, on a 365-day year, is closest to:

  1. KES 1,230,000 Correct answer.
  2. KES 370,000
  3. KES 4,930,000
  4. KES 820,000

Explanation

Receivables at 70 days are 120,000,000 x 70/365 = about KES 23,014,000 and at 45 days about KES 14,795,000, a reduction of roughly KES 8,219,000. Applying the 15% cost of funds gives a saving of about KES 1,233,000, closest to KES 1,230,000. The saving is the funds released multiplied by the financing rate.

Question 40Credit Management

A firm offers terms of net 30 but records days sales outstanding of 65 days, while the industry average is 42 days. The most defensible interpretation is which of the following?

  1. The figure is invalid because it exceeds the stated terms
  2. Sales are growing faster than the receivables balance
  3. Customers are paying early and the credit period should be cut
  4. Collections are lagging and credit control needs to be reviewed Correct answer.

Explanation

A DSO well above both the stated credit period and the industry norm indicates that customers are taking far longer to pay than the terms allow, pointing to weak collection effort or lax credit control. DSO is an average, so it can legitimately exceed the terms when some customers pay late. The gap of 23 days against the industry suggests an internal control issue rather than a calculation error.

Question 41Financial Accounting

Which accounting concept requires that expenses incurred in earning revenue be recognised in the same period as that revenue?

  1. Going concern concept
  2. Matching concept Correct answer.
  3. Consistency concept
  4. Prudence concept

Explanation

The matching concept requires that expenses be recognised in the same accounting period as the revenue to which they relate. An expense incurred to earn revenue is therefore charged against that revenue.

Question 42Financial Accounting

A trader buys goods on credit from a supplier. Which double entry records this transaction?

  1. Dr Payables; Cr Purchases
  2. Dr Cash; Cr Purchases
  3. Dr Purchases; Cr Payables Correct answer.
  4. Dr Purchases; Cr Cash

Explanation

A credit purchase increases the purchases expense and at the same time creates a liability to the supplier. The debit therefore goes to purchases and the credit to payables.

Question 43Financial Accounting

Which of the following errors will cause a trial balance to disagree?

  1. A compensating error
  2. An error of principle
  3. A single-sided entry Correct answer.
  4. An error of complete omission

Explanation

The trial balance only proves that total debits equal total credits. When only one side of a transaction is posted, the two totals differ and the trial balance will not agree.

Question 44Financial Accounting

Rent paid during the year was KSh 12,000, which includes KSh 2,000 relating to the following year. What amount should be charged to the statement of profit or loss for the year?

  1. KSh 10,000 Correct answer.
  2. KSh 14,000
  3. KSh 12,000
  4. KSh 2,000

Explanation

Only rent relating to the current period is an expense. The KSh 2,000 relating to the next period is carried forward as a prepayment, leaving KSh 10,000 to be charged.

Question 45Financial Accounting

A machine costing KSh 500,000 has an estimated residual value of KSh 50,000 and a useful life of five years. Using the straight-line method, what is the annual depreciation charge?

  1. KSh 110,000
  2. KSh 90,000 Correct answer.
  3. KSh 80,000
  4. KSh 100,000

Explanation

Straight-line depreciation spreads the depreciable amount, being cost less residual value, evenly over the useful life. (500,000 − 50,000) ÷ 5 = KSh 90,000.

Question 46Financial Accounting

Equipment costing KSh 800,000 is depreciated at 20% per annum on the reducing balance basis. What is the depreciation charge for the second year?

  1. KSh 102,400
  2. KSh 144,000
  3. KSh 160,000
  4. KSh 128,000 Correct answer.

Explanation

Reducing balance applies the rate to the carrying amount. Year one charge is 800,000 × 20% = 160,000, leaving 640,000; the year two charge is 640,000 × 20% = 128,000.

Question 47Financial Accounting

A business has receivables of KSh 400,000 and requires an allowance for doubtful debts of 5%. The allowance account already carries a credit balance of KSh 12,000. What amount is charged to the statement of profit or loss?

  1. KSh 12,000
  2. KSh 20,000
  3. KSh 32,000
  4. KSh 8,000 Correct answer.

Explanation

The required allowance is 5% of 400,000, which is KSh 20,000. Since KSh 12,000 already exists, only the increase of KSh 8,000 is charged as an expense.

Question 48Financial Accounting

The cash book shows a debit balance of KSh 46,000. Cheques issued but not yet presented total KSh 7,000 and deposits not yet credited by the bank total KSh 3,000. What balance will appear on the bank statement?

  1. KSh 42,000 Correct answer.
  2. KSh 56,000
  3. KSh 36,000
  4. KSh 50,000

Explanation

The bank statement starts from the cash book balance and adjusts for items the bank has not yet recorded: add deposits not yet credited and deduct unpresented cheques. 46,000 + 3,000 − 7,000 = 42,000.

Question 49Financial Accounting

Under IAS 2 Inventories, at what amount must inventory be measured in the financial statements?

  1. Lower of cost and market value
  2. Cost, less any trade discount received
  3. Lower of cost and net realisable value Correct answer.
  4. Net realisable value

Explanation

IAS 2 requires inventory to be carried at the lower of cost and net realisable value, so unrealised holding gains are not recognised while losses from falling values are.

Question 50Financial Accounting

During a period of steadily rising prices, which inventory cost formula produces the highest reported profit?

  1. Last-in, first-out
  2. Weighted average cost
  3. Specific identification
  4. First-in, first-out Correct answer.

Explanation

When prices rise, FIFO charges the earliest and cheapest costs to cost of sales, leaving the higher recent costs in closing inventory. A lower cost of sales produces the highest profit.