Question

How does components from the Cash Conversion Cycle affects the components of ROE. Explain

Answer 1

Cash conversion cycle is referred as a metric using which company converts its receivables into cash and investment into cash as quickly as possible so it impacts the return on equity to a highest possible extent because return on equity is based upon the realisation of profits and only such profits which are liquid and which are realised in nature should be recorded in overall return which are due to the shareholders of the company.

cash conversion cycle is based upon days of inventory outstanding and days of payables which are outstanding so this is a cycle which estimates how quickly the company will convert its payables and receivables in cash, and it also refers to the liquidity position of the company at a given point of time so since it is related with the realisations and profits of the overall company so this realisations account for overall return, which are used for calculation of return in equity so cash conversion cycle impacts the return on equity to a largest possible extent.

Return on equity has various elements like equity share capital as well as overall return which is earned for the shareholders of the company after payment of interest and other expenses from the overall revenues, so, the quickly the profits are realised, it would be accounted as revenues and the quickly the payables are paid out, it will be accounted into overall expenses so it will affect the return on equity to the largest possible extent.