Question

2. Advanced Medical Technology is a new, rapidly growing firm that produces specialized medical instruments. They sell to hospitals and other surgical units, and a substantial portion of their sales are to foreign governments. Typical payable terms in the industry are payment with 30 days.

They recently reported the following financial information:

            Sales                            $225,000          

            Cost of sales                  180,000          

            Inventory                           33,000         

            Accounts receivable          72,000         

            Accounts payable             30,000         

            # of Days per year               365          

                       

Compute the additional working capital financing period for Advanced Medical.

           

                       

Comment on their working capital financing period.   What actions might Advanced take to improve their situation?

Answer 1

1)	Days sales outstanding (DSO) = 72000*365/225000 =	117	days
	Days inventory outstanding (DIO) = 33000*365/180000 =	67	days
	Days payables outstanding (DPO) = 30000*365/180000 =	61	days
	WC financing period = DSO+DIO-DPO = 117+67-61 =	123	days
2)	As the payment terms are 30 days, the additional WC
	period for Advanced Medical is 117-30 =	87	days
3)	As the WC period is 123 days, it means that the WC is
	being turned over only 3 times a year (365/123 = 3 appx).
	If, the normal 30 days of DSO is considered the WC
	turnover would be 365/36 =	10	days
	[Normal WC period = 30+67-61 = 36]
4)	Advanced should reduce its DSO drastically to become
	efficient.
	The firm can take the following actions to improve the
	situation:
	*Review its credit policy to make it more efficient. The
	aspects to be reviewed are credit evaluation, fixing of
	credit limits, credit terms including discount policy, etc.
	*Improve its collection procedures.
	*Think of factoring the receivables.