Question

CASH CONVERSION CYCLE

Parramore Corp has $12 million of sales, $1 million of inventories, $4 million of receivables, and $1 million of payables. Its cost of goods sold is 65% of sales, and it finances working capital with bank loans at an 7% rate. Assume 365 days in year for your calculations. Do not round intermediate steps.

A. What is Parramore's cash conversion cycle (CCC)? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 121.67 days

B. If Parramore could lower its inventories and receivables by 7% each and increase its payables by 7%, 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.

Answer 106.60 days

C. How much cash would be freed up, if Parramore could lower its inventories and receivables by 7% each and increase its payables by 7%, 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.

$ ____________

D. By how much would pretax profits change, if Parramore could lower its inventories and receivables by 7% each and increase its payables by 7%, 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. $___________

Answers to A and B have been provided and are correct

Answer 1

(A). Cash conversion cycle = 121.67 days

Cash conversion Cycle = Inventory days + Receivable days – Payable days

Now let’s calculate inventory days;

Inventory days (365 * $1000000 / $7800000) = 46.79 days

Receivable days are given (365 * $4000000 / $12000000) = 121.67 days

Payable days are given (365 * $1000000 / $7800000) = 46.79 days

Thus cash conversion cycle will be (46.79 days + 121.67 days – 46.79 days) = 121.67 days

(B). Cash conversion cycle = 106.60 days

Cash conversion Cycle = Inventory days + Receivable days – Payable days

Now let’s calculate inventory days;

Inventory days (365 * $930000 / $7800000) = 43.52 days

Receivable days are given (365 * $3720000 / $12000000) = 113.15 days

Payable days are given (365 * $1070000 / $7800000) = 50.07 days

Thus cash conversion cycle will be (43.52 days + 113.15 days – 50.07 days) = 106.6 days

(C). Cash would be freed up = $279896

Explanation;

Cash freed up by lowering 7% inventories will be [(46.79 – 43.52) * $7800000] / 365 = $69879.45

Cash freed up by lowering 7% receivable will be [(121.67 – 113.15) * $12000000] / 365 = $280109.59

Cash freed up by increasing 7% payables will be [(46.79 – 50.07) * $7800000] / 365 = - $70093.15

Thus total cash freed up ($69879.45 + $280109.59 – $70093.15) = $279895.89 OR $279896 (Approx.)

(D). Pretax profit will change = $19593

Explanation;

Total cash freed up = $279896

Thus pretax profit will increase ($279896 * 0.07) = $19592.72 OR $19593 (Approx.)

Note: All provided answers are correct, so check there may be difference due to nearest decimal points. Suppose it may be that $279896 is accepted as $280000 then answer of part (D) will also change to ($280000 * 0.07) = $19600.

If there is any more confusion then let me know.