Question

Chastain Corporation is trying to determine the effect of its inventory turnover ratio and days sales outstanding (DSO) on its cash conversion cycle. Chastain's 2016 sales (all on credit) were $100,000; its cost of goods sold is 80% of sales; and it earned a net profit of 2%, or $2,000. It turned over its inventory 6 times during the year, and its DSO was 34 days. The firm had fixed assets totaling $35,000. Chastain's payables deferral period is 50 days. Assume 365 days in year for your calculations.

a. Calculate Chastain's cash conversion cycle. Round your answer to two decimal places. Do not round intermediate calculations. ______ Days

b. Assuming Chastain holds negligible amounts of cash and marketable securities, calculate its total assets turnover and ROA. Round your answers to two decimal places. Do not round intermediate calculations.

Total assets turnover ___________

ROA _____________%

c. Suppose Chastain's managers believe that the inventory turnover can be raised to 9.8 times. What would Chastain's cash conversion cycle, total assets turnover, and ROA have been if the inventory turnover had been 9.8 for 2016? Round your answers to two decimal places. Do not round intermediate calculations.

Cash conversion cycle _________ days

Total assets turnover ____________

ROA ______________%

Answer 1

a). Cash conversion cycle = Days Inventory outstanding (DIO) + Days Sales Outstanding (DSO) - Days Payable outstanding (DPO)

DIO = 365/Inventory turnover ratio = 365/6 = 60.83 days

DSO = 34 days

DPO = 50 days

CCC = 60.83 + 34 - 50 = 44.83 days

b). Total assets = Total fixed assets + total inventory + total receivables

Total fixed assets = 35,000

Inventory turnover = COGS/Average inventory

Average inventory = COGS/Inventory turnover = (80%*100,000)/6 = 13,333.33

Average collection period = 365/DSO = 365/34 = 10.74

Average debtors = Sales/Average collection period = 100,000/10.74 = 9,315.07

Total assets = 35,000 + 13,333.33 + 9,315.07 = 57,648.70

Total asset turnover = Sales/Total assets = 100,000/57,648.70 = 1.73

ROA = Net income/Total assets = 2,000/57,648.70 = 3.47%

c). If inventory turnover = 9.8 times then

DIO = 365/9.8 = 21.24 days

New CCC = 22.37 + 34 - 50 = 21.24 days

Average inventory = COGS/9.8 = 8,163.27

Total assets = 35,000 + 8,163.27 + 9,315.07 = 52,478.33

Total asset turnover = 100,000/52,478.33 = 1.91

ROA = 2,000/52,478.33 = 3.81%