Question

3. Calculate the Cash Conversion Cycle (use end-of-period amounts rather than average of receivables, inventory, and payables): • Days Sales Outstanding (DSO) = Receivables / (Sales/365) • Days Inventory Held (DIH) = Inventory / (CGS/365) • Days Payable Outstanding (DPO) = Payables/(CGS/365) • Operating Cycle = DSO + DIH • Cash Conversion Cycle (CCC) = Operating Cycle - DPO 2017 2016 2015 2014 2013 DIH 152.08 106.46 101.39 DSO 121.67 73.00 64.89 DPO 121.67 76.04 70.97 Operating Cycle 273.75 179.46 166.28 CCC 152.08 152.08 103.42 95.31 Interpret the trend.

Answer 1

Days of Inventory held is continuously increasing for the company, which means company is taking larger amount of time to convert its raw material into end product. It shows that production efficiency of the company has reduced over years.

Similarly, days of sales outstanding is also increasing, it means company is taking larger amount of time to collect money from its debtors. This also affects company's operating efficiency as company's money is stuck with the debtors for more number of days, and return earned by cycling same money in the year is decreasing.

Effect of above 2 facts is that Operating Cycle of the company has increased substantially, this means company's operating efficiency has deteriorated and company is much less efficient operationally today as compared to 3 years ago.

Company's days of payable outstanding has also increased considerably, this means company is not paying its creditors as early as it used to do 3 years ago. Although this helps company in improving its cash conversion cycle, as loss in operating efficiency is funded somehow by increase in DPO, but it should also be considered that if DPO increases a lot, it might be difficult for the company to get raw material on credit in future.

Overall, Cash Conversion Cycle of the company has increased, if company was able to rotate all its cash about 4 times (365/95) 3 years ago, today company can rotate its cash only about 2.5 times(365/152) now. So return of the company from its resources has decreased.