Question

P15-1 Cash conversion cycle Metal Supplie ion cycle Metal Supplies is concerned about its cash management. On day's sales in inventory (duration of inventory on shelf) is 90 days. Accounts receivable are collected in 90 days, while accounts are collected in 90 days, while accounts payable are paid in 60 days. Metal Supplies has annual sales of upplies has annual sales of $ 14 million; cost of goods sold total $9.5 million, and purchases are $5 million. (Note: Use a 365-day year. a. Calculate Metal Supplies' operating cycle. b. What is Metal Supplies' cash conversion cycle? c. Calculate the amount of resources needed to support Metal Supplies' cash con- version cycle. d. Discuss how Metal Supplies might be able to reduce its cash conversion cycle.

Answer 1

Answer a.

Operating Cycle = Days Sales in Inventory + Days Sales Outstanding
Operating Cycle = 90 days + 90 days
Operating Cycle = 180 days

Answer b.

Cash Conversion Cycle = Operating Cycle - Days Payable Outstanding
Cash Conversion Cycle = 180 days - 60 days
Cash Conversion Cycle = 120 days

Answer c.

Days Sales in Inventory = 365 * Inventory / Cost of Goods Sold
90 = 365 * Inventory / $9,500,000
Inventory = $2,342,465.75

Days Sales Outstanding = 365 * Accounts Receivable / Sales
90 = 365 * Accounts Receivable / $14,000,000
Accounts Receivable = $3,452,054.79

Days Payable Outstanding = 365 * Accounts Payable / Cost of Goods Sold
60 = 365 * Accounts Payable / $9,500,000
Accounts Payable = $1,561,643.84

Resources Needed = Inventory + Accounts Receivable - Accounts Payable
Resources Needed = $2,342,465.75 + $3,452,054.79 - $1,561,643.84
Resources Needed = $4,232,876.70

Answer d.

Cash conversion cycle can be decreased by:
Decrease in days sales outstanding
Increase in days payable outstanding.