10. P Inc. is revising its payables policy. It has annual sales of $50,735,000,
ID: 2802387 • Letter: 1
Question
10. P Inc. is revising its payables policy. It has annual sales of $50,735,000, an average inventory level of $15,012,000, and average accounts receivable of $10,008,000. The firm's cost of goods sold is 85% of sales. The company makes all purchases on credit and has always paid on the 30th day. However, it now plans to take full advantage of trade credit and to pay its suppliers on the 40th day. The CFO also believes that sales can be maintained at the existing level but inventory can be lowered by $1,946,000 and accounts receivable by $1,946,000. What will be the net change in the cash conversion cycle, assuming a 365-day year? (Hint: compare old to new).
Explanation / Answer
If Company paid to Supplier on 30th day:
Annual Sales = $50,735,000
Average Inventory = $15,012,000
Average Accounts Receivable = $10,008,000
Cost of Goods Sold = 85%*$50,735,000
Cost of Goods Sold = $43,124,750
Days Sales Outstanding = 365 * Average Accounts Receivable / Annual Sales
Days Sales Outstanding = 365 * $10,008,000 / $50,735,000
Days Sales Outstanding = 72 days
Days Inventory Outstanding = 365 * Average Inventory / Cost of Goods Sold
Days Inventory Outstanding = 365 * $15,012,000 / $43,124,750
Days Inventory Outstanding = 127 days
Days Payable Outstanding = 30 days
Cash Conversion Cycle = Days Sales Outstanding + Days Inventory Outstanding - Days Payable Outstanding
Cash Conversion Cycle = 72 + 127 - 30
Cash Conversion Cycle = 169 days
If Company paid to Supplier on 40th day:
Annual Sales = $50,735,000
Average Inventory = $13,066,000
Average Accounts Receivable = $8,062,000
Cost of Goods Sold = 85%*$50,735,000
Cost of Goods Sold = $43,124,750
Days Sales Outstanding = 365 * Average Accounts Receivable / Annual Sales
Days Sales Outstanding = 365 * $8,062,000 / $50,735,000
Days Sales Outstanding = 58 days
Days Inventory Outstanding = 365 * Average Inventory / Cost of Goods Sold
Days Inventory Outstanding = 365 * $13,066,000 / $43,124,750
Days Inventory Outstanding = 111 days
Days Payable Outstanding = 40 days
Cash Conversion Cycle = Days Sales Outstanding + Days Inventory Outstanding - Days Payable Outstanding
Cash Conversion Cycle = 58 + 111 - 40
Cash Conversion Cycle = 129 days
Change in Cash Conversion Cycle = Cash Conversion Cycle (Old) - Cash Conversion Cycle (New)
Change in Cash Conversion Cycle = 169 - 129
Change in Cash Conversion Cycle = 40 days
Related Questions
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.