FINANCIAL MANAGEMENT

1. Cash Management (Cash Conversion Cycle)

Problem:

Loud Noise Recordings Corporation has forecasted sales of $27,000,000 for next year and expects its
cost of goods sold (COGS) to remain at 80% of sales. Currently, the firm holds $2, 800,000 in inventories,
$1, 900,000 in accounts receivable, and $2, 600,000 in accounts payable.

The management at Loud Noise Recordings wants to continue its internal discussions regarding its cash
management. One of the finance team members presents the following case to her cohorts:
Which of the following responses to the CFO's statement is most accurate?

1. The CFO is not taking into account the amount of time the company has to pay its suppliers.
Generally, there is a certain length of time between the purchase of materials and labor and the
payment of cash for them. The CFO can reduce the estimated length of the bank loan by this
amount of time.
2. The CFO's approximation of the length of the bank loans should be accurate, because it will take
110 days for the company to manufacture, sell, and collect cash for its goods. All these things
must occur for the company to be able to repay its loans from the bank.

Solution:

The CFO is not taking into account the amount of time the company has to pay its suppliers.
Generally, there is a certain length of time between the purchase of materials and labor and the
payment of cash for them. The CFO can reduce the estimated length of the bank loan by this
amount of time.
The second choice is incorrect due to the below computation, debunking CFO's statement that the
company needs at least 110 days to convert the whole process into cash:
Days Inventory Outstanding = InventoryCost of Goods Sold ∗ 365 Days 
Days Inventory Outstanding = 2,800,000 / 3,600,000 ∗ 365 = 47 days

Days Payables Outstanding = AccountsPayableCost of Goods Sold ∗ 365
Days Payables Outstanding = 2,600,000 / 21,600,000 ∗ 365
Days Payables Outstanding = 2,600,000 / 21,600,000 ∗ 365 = 44 days

Days Sales Outstanding = 1,900,000 / 27,000,000 ∗ 365
Days Sales Outstanding = 1,900,000 / 27,000,000 ∗ 365 = 26 days

Using the cash conversion cycle,

Cash Conversion Cycle = DIO + DSO – DPO

Cash Conversion Cycle = 47 + 26 – 44 = 29 days

 It will only takes 29 days for the company to manufacture, sell, and collect cash for its good as
opposed to the CFO’s opinion that it will take 110 days.

https://study.com/academy/answer/loud-noise-recordings-corporation-has-forecasted-sales-of-27-000-
000-for-next-year-and-expects-its-cost-of-goods-sold-cogs-to-remain-at-80-of-sales-currently-the-firm-
holds-2-800-000-in-inventories-1-900-000-in-accounts-receivable-and-2-600.html

2. Receivable Management (Receivable Collection Period)

Problem:

Becky just took a new position handling the books for a property management company. The business
has average accounts receivable of $250,000 and net credit sales of $400,000 with 365 days in the
period. Because their income is dependent on their cash flow from residents, she wants to know how
the company has been doing with their average collection period in the past year. 

Solution:

Let’s break it down to identify the meaning and value of the different variables in this problem. 

1. Average Accounts Receivable: 250,000

2. Net Credit Sales: 400,000

3. Days in the period: 365

We can apply the values to our variables and calculate the average collection period. 

Average Collection Period = 365 × 250 000 / 400 000 = 228.13

In this case, the company has an average collection period of 228.13 days.  

Using this same formula, Becky can do an estimate of other properties on the market. If her result is
lower than theirs, then the company would probably be doing a good job at collecting rent due from
residents. This is, of course, as long as their collection policies don’t turn away too many potential
renters. 

On the contrary, if her result is higher than the local market, she might want to think about adjusting the
terms of payment in their lease to make sure they are paid in a more timely manner.  

https://studyfinance.com/average-collection-period/
3. Inventory Management (Economic Order Quantity)

Problem:

ABC Ltd. uses EOQ logic to determine the order quantity for its various components and is
planning its orders. The Annual consumption is 80,000 units, Cost to place one order is Rs. 1,200,
Cost per unit is Rs. 50 and carrying cost is 6% of Unit cost. Find EOQ, No. of order per year,
Ordering Cost and Carrying Cost and Total Cost of Inventory.
https://www.accountancyknowledge.com/economic-order-quantity/

4. Short – term Payable Management ( Effective Interest of Short – term Obligations )

Problem:

As a business, it is important to offer 30-day – 60-day payment terms to all customers. But, a small
business cannot afford to wait for that long for their payment. Such businesses require money sooner.
Ultimately, slow payments will create financial problems that can affect such companies seriously.

Solution:

As far as we are concerned, this problem can be solved in two ways:

 Providing customers with incentives that will make them pay faster. For example, giving them
two percent (2%) discount in exchange for payments that are made in ten days earlier can
actually motivate them to pay faster.
 Invoice factoring can also be used to finance all the slow-paying invoices. This is one of the
methods that will immediately improve cash flow and enable businesses to offer confidently
payment terms.

http://fogartycpa.com/business-problem-solving/