Question

Parramore Corp has $16 million of sales, $3 million of inventories, $2 million of receivables, and $3 million of payables. Its cost of goods sold is 65% of sales, and it finances working capital with bank loans at an 9% rate. Assume 365 days in year for your calculations. Do not round intermediate steps.

1. What is Parramore's cash conversion cycle (CCC)? Do not round intermediate calculations. Round your answer to two decimal places.
     days
2. 
   
3. If Parramore could lower its inventories and receivables by 11% each and increase its payables by 11%, all without affecting sales or cost of goods sold, what would be the new CCC? Do not round intermediate calculations. Round your answer to two decimal places.
     days
4. 
   
5. How much cash would be freed up, if Parramore could lower its inventories and receivables by 11% each and increase its payables by 11%, all without affecting sales or cost of goods sold? Do not round intermediate calculations. Round your answer to the nearest cent. Write out your answer completely. For Example, 13.2 million should be entered as 13,200,000.
   $
6. 
   
7. By how much would pretax profits change, if Parramore could lower its inventories and receivables by 11% each and increase its payables by 11%, all without affecting sales or cost of goods sold? Do not round intermediate calculations. Round your answer to the nearest cent. Write out your answer completely. For Example, 13.2 million should be entered as 13,200,000.
   $

Answer 1

Calculation of cash conversion cycle
Cash conversion cycle	Days in inventory + Average collection period - Average payable period
Days in inventory	Inventory/Cost of goods sold per day
Days in inventory	3000000/((16000000*65%)/365)
Days in inventory	3000000/28493.15
Days in inventory	105.29	days
Average collection period	Accounts receivable/Sales per day
Average collection period	2000000/(16000000/365)
Average collection period	2000000/43835.62
Average collection period	45.63	days
Average payable period	Accounts payable/Cost of goods sold per day
Average payable period	3000000/28493.15
Average payable period	105.29	days
Cash conversion cycle	105.29+45.63-105.29
Cash conversion cycle	45.63	days
b.
Calculation of new CCC
Days in inventory	Inventory/Cost of goods sold per day
Days in inventory	(3000000*0.89)/((16000000*65%)/365)
Days in inventory	2670000/28493.15
Days in inventory	93.71	days
Average collection period	Accounts receivable/Sales per day
Average collection period	(2000000*0.89)/(16000000/365)
Average collection period	1780000/43835.62
Average collection period	40.61	days
Average payable period	Accounts payable/Cost of goods sold per day
Average payable period	(3000000*1.11)/28493.15
Average payable period	116.87	days
Cash conversion cycle	93.71+40.61-116.87
Cash conversion cycle	17.44	days
c.
Calculation of cash freed up
Inventory	28493.15*(105.29-93.71)
Inventory	330000
Receivables	43835.62*(45.63-40.61)
Receivables	220000
Accounts payable	28493.15*(116.87-105.29)
Accounts payable	330000
Cash freed up	330000+220000-330000
Cash freed up	$220,000
d.
Increase in pretax profit	220000*9%
Increase in pretax profit	$19,800
There would be savings in interest expense as excess cash is available the amount of loan borrowed would be lower