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 $193000; its cost of goods sold is 80% of sales; and it earned a net profit of 2%, or $3860. It turned over its inventory 6 times during the year, and its DSO was 37 days. The firm had fixed assets totaling $37000. Chastain's payables deferral period is 35 days. Assume 365 days in year for your calculations. The data has been collected in the Microsoft Excel Online file below. Open the spreadsheet and perform the required analysis to answer the questions below.

Open spreadsheet

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

   days

2. 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		%

3. Suppose Chastain's managers believe that the inventory turnover can be raised to 8.7 times. What would Chastain's cash conversion cycle, total assets turnover, and ROA have been if the inventory turnover had been 8.7 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. Inventory turnover = 6 , No of days in a year = 365

Days of inventory on hand = No of days in a year / Inventory turnover = 365 / 6 = 60.8333

Cash conversion cycle = Days of inventory on hand + Days of sales outstanding - Payables deferral period = 60.8333 + 37 - 35 = 62.8333 = 62.83 days (rounded to two decimal places)

b. sales = credit sales = 193000 , Cost of goods sold = 80% of sales = 80% of 193000 = 154400

Inventory turnover = Cost of goods sold / Inventory

6 = 154400 / Inventory

Inventory = 154400 / 6 = 25733.3333

Days of sales outstanding = (Account receivable / credit Sales) x 365

37 = (Account receivable / 193000) x 365

Account receivable = (37 x 193000) / 365 = 19564.3835

Since Chastain holds negligible cash and marketable securities, hence cash + marketable securities = 0

Total assets = Fixed assets + inventory + account receivable + cash + marketable securities = 37000 + 25733.3333 + 19564.3835 + 0 = 82297.7168

Total asset turnover = Sales / Total assets = 193000 / 82297.7168 = 2.3451 = 2.35 ( rounded to two decimal places)

Return on assets = Net income / Total assets = 3860 / 82297.7168 = 0.046902 = 4.6902% = 4.69% ( rounded to two decimal places)

c. Since inventory turnover ratio has be changed to 8.7

Days of inventory on hand = No of days in a year / Inventory turnover = 365 / 8.7 = 41.9540

Cash conversion cycle = Days of inventory on hand + Days of sales outstanding - Payables deferral period = 41.9540 + 37 - 35 = 43.9540 = 43.95 days (rounded to two decimal places)

Inventory turnover = Cost of goods sold / Inventory

8.7 = 154400 / Inventory

Inventory = 154400 / 8.7 = 17747.1264

Account receivable = 19564.3835 (as calculated in part b) and cash + marketable securities = 0

Total assets = Fixed assets + inventory + account receivable + cash + marketable securities = 37000 + 17747.1264 + 19564.3835 + 0 = 74311.5099

Total asset turnover = Sales / Total assets = 193000 / 74311.5099 = 2.5971 = 2.60 (rounded to two decimal places)

Return on assets = net income / Total assets = 3860 / 74311.5099 = 0.051943 = 5.1943% = 5.19% (rounded to two decimal places)