Finance for Managers

BAC4010

Working Capital Efficiency

Lecturer: Wesam Zendah

1 Lecturer: Wesam Zendah - SIST Univers

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 Working Capital Cycle (WCC)
• The day- to-day movement of cash relating to
inventories, trade receivables and trade payables.

• Working Capital refers to the time is taken by

organization to convert its Net Current Assets & Current
Liabilities into CASH.

• It is the ability and efficiency of the Organization to

manage its Short-Term liquidity position.

• i.e Working Capital is the time duration between buying

goods/raw materials to manufacture products and
generation of cash revenue on selling the products.

2 Lecturer: Wesam Zendah - SIST Univers

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 Working Capital Cycle (WCC)

)days 35(

Creditors
A/P

)days 60( )days 15(

Debtors
A/R
)days 30(

(140 days)
3 Lecturer: Wesam Zendah - SIST Univers
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 Working Capital Cycle (WCC)

Current Assets Current Liabilities

• Cash • Payables
• Receivables • Over Draft
• Inventory
HOW DO WE MANAGE THESE ??

4 Lecturer: Wesam Zendah - SIST Univers

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 All Depends on Our FOCUS

Liquidity Profitability

High Receivables
Low Receivables High Inventory
Customers have to pay now Not worry about liquid(Cash)
You really need cash to run your Customers don’t pay now
business High Sales, so you have more
cash stuck in the market.

5 Lecturer: Wesam Zendah - SIST Univers

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 Receive
Cash

Buy Inventory Sell it Receivables

Payables Pay
Buy
CASH

Generally you have to

pay suppliers before Here We Need Money
receiving the cash to pay.. So We need
from your customers *FUNDING*
Working Capital
Funding Problem

• If you are focusing on Liquidity then Inventory & Receivables days’ will be small
• If you are focusing on Profitability then Inventory & Receivables days’ will be
BIG and for sure your funding problem will be even bigger.
6 Lecturer: Wesam Zendah - SIST Univers
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 Measure of Liquidity
 Liquidity Ratios:
Ability to satisfy
• Current Ratios = Current Assets current liabilities
by using current assets
Current Liabilities

Ability to satisfy
current liabilities using
• Quick Ratio = Current Assets - Inventory the most liquid of
Current Liabilities current assets

7 Lecturer: Wesam Zendah - SIST Univers

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 Working Capital Cycle (WCC)

• The shorter the working capital cycle, the

faster the company is able to free up its cash
stuck in working capital.
• If the working capital cycle is too long, then
the capital gets locked in the operational
cycle without earning any returns. Therefore,
a business tries to shorten the working capital
cycles to improve the short-term liquidity
condition and increase their business
efficiency.
8 Lecturer: Wesam Zendah - SIST Univers
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 Operating or Working Capital Cycle WCC
• Operating Capital cycle is the number of days a company
takes in realizing/converting its inventories in cash.

• It is called operating cycle because this process of

producing/purchasing inventories, selling them, recovering
cash from customers, using that cash to
purchase/produce inventories and so on is repeated as
long as the company is in operations.

• Operating cycle is a measure of the operating efficiency

and working capital management of a company. A short
operating cycle is good as it tells that the company's cash
is tied up for a shorter period.

9 Lecturer: Wesam Zendah - SIST Univers

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 WCC 4 Key Elements
1. Cash
2. Receivables (debtors).
3. Payables (creditors).
4. Inventory (stock).

 A business needs to have complete control over these

four items in order to have a fairly controlled and
efficient working capital cycle.

 Hint: The longer the cycle, the greater the company’s

need for liquidity.

10 Lecturer: Wesam Zendah - SIST Univers

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 Working Capital Cycle Formula

Working Capital Inventory/ Receivables/ Payables/

Cycle = Stock Days’ + Debtors - Creditors
Days’ Days’

You Need High High Low

High Funding

 Why High Funding ??!!

• Focusing on Profitability (not Liquidity)
• Poor Management Working Capital
• Nature of the Business

11 Lecturer: Wesam Zendah - SIST Univers

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 Inventory Day’s
• The inventory Days calculation measures the number of days it
will take a company to sell all of its inventory.

• This is an important to creditors and investors for three main

reasons.
It measures value, liquidity, and cash flows.
• Both investors and creditors want to know how valuable a
company’s inventory is.
• The inventory Days shows how fast the company is moving its
inventory.
• This calculation also shows the liquidity of inventory. Shorter days
inventory outstanding means the company can convert its inventory
into cash sooner. In other words, the inventory is extremely
liquid.
• Along the same line, more liquid inventory means the company’s
cash flows will be better.
12 Lecturer: Wesam Zendah - SIST Univers
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 Inventory/Stock Day’s Formula

Average Inventory = Beg. Inventory + End. Inventory

2

How many times Inventory

Inventory Turnover C.O.G.S is
= created and sold
Ratio Average Inventory
during the period.

How many Days

365 days Per Year (Period in Days) it will take
Inventory Day’s = the company
Inventory Turnover Ratio
to sell its inventory

Remember: C.O.G.S = Beg. Inventory + Purchases – Ending Inventory

13 Lecturer: Wesam Zendah - SIST Univers

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 • Example 1: Company Y has inventory turnover
ratio of 13.5 for the year. Calculate its days'
inventory on hand ratio.

• Solution
Number of days in the period = 365
Inventory Days’ = 365 ÷ 13.5 ≈ 27

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• Example 2: Calculate the Inventory Days ratio using
the information given below:
• Beginning Inventory$213,000
• Ending Inventory$265,000
• Cost of Goods Sold (for the quarter)$5,712,000

• Solution
Number of Days in the Period = 365/4 ≈ 91 per quarter
Average Inventory = (213,000 + 265,000) ÷ 2 = $239,000
Inventory Turnover Ratio = 5,712,000 ÷ 239,000= 23.9

Inventory Days’= 91 days ÷ 23.9 = 3.8 days the company

takes to sell its inventory
15 Lecturer: Wesam Zendah - SIST Univers
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Inventory Days’ Exercises

1. Wal-Mart Stores, Inc., which in 2017 reported

annual sales of approximately $485.87 billion. Its
year-end inventory equaled $43.05 billion, beginning
inventory $20 billion while its annual cost of sales
was $361.26 billion. Find the days sales of inventory.

2. Keith’s Furniture Company’s management have been

extremely happy with their sales staff because they
have been moving more inventory this year than in
any previous year. At the end of the year, Keith’s
financial statements show an ending inventory of
$50,000 and a cost of good sold of $150,000.
Calculate the Inventory Days.

16 Lecturer: Wesam Zendah - SIST Univers

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 ’Debtors/Receivables days
• Receivables Days’ Ratio used to measure the average number of
days a business takes to collect its trade receivables after they
have been created.

• Accounts receivable turnover is an Efficiency Ratio or activity

ratio that measures how many times a business can turn its
accounts receivable into cash during a period.
• A turn refers to each time a company collects its average
receivables.

For ex. If a company had $20,000 of average receivables during

the year and collected $40,000 of receivables during the year,
the company would have turned its accounts receivable twice
because it collected twice the amount of average receivables.

17 Lecturer: Wesam Zendah - SIST Univers

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 Debtors/Receivables Day’s Formula
Average
Beg. A/R + End. A/R
Debtors/Receivables =
2

How many times A/R are

Receivables Turnover = Credit Sales (Receivables) created and collected
Ratio Average Receivables or Debtors during the period.

How many Days

Receivables or 365 days Per Year (Period in Days) it will take
= the company
Debtors Day’s Receivables Turnover Ratio
to collect it’s A/R during
the period.

18 Lecturer: Wesam Zendah - SIST Univers

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• Example 1: Net credit sales of Company A during the
year ended June 30, 2010 were $644,790. Its
accounts receivable at July 1, 2009 and June 30,
2010 were $43,300 and $51,730 respectively.
Calculate the receivables turnover ratio and the
Receivables days’.

• Solution
Average Accounts Receivable = ($43,300 + $51,730) ÷
2 = $47,515
Receivables Turnover Ratio = $644,790 ÷ $47,515 ≈
13.57
• Receivables or Debtors Days’ = 365 ÷ 13.57= 26.8
days

19 Lecturer: Wesam Zendah - SIST Univers

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• Example 2: Total sales of Company B during the year
ended December 31, 2010 were $984,000. Customers
returned goods invoiced at $31,400 during the year.
Average accounts receivable during the period were
$23,880. Calculate accounts receivable turnover
ratio.

• Solution

Credit Sales = $984,000 − $31,400 = $952,600

Receivables Turnover = $952,600 ÷ $23,880 ≈ 39.89

Receivables Days’ = 365 ÷ 39.89 = 9 days

20 Lecturer: Wesam Zendah - SIST Univers

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1. Suppose that during the month of July, Company A
made a total of $500,000 in credit sales and had
$350,000 in Average accounts receivable. There are
31 days in July. Find Company A’s Receivables Days’.

2. Devin’s Long Boards is a retailer that offers credit

to customers. Devin often selling inventory to
customers on account with the agreement that these
customers will pay for the merchandise within 30
days
Accounts Receivable: $15,000
Net Credit Sales: $175,000

21 Lecturer: Wesam Zendah - SIST Univers

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 ’Payables/Creditors Days
• Payables/Creditors Days’ calculates the
average time it takes a company to pay its bills
and invoices to other company and vendors by
comparing accounts payable, cost of sales, and
number of days bills remain unpaid.
• Accounts payable turnover is the ratio of net
credit purchases of a business to its average
accounts payable during the period.
• It measures short term liquidity of business
since it shows how many times during a period,
an amount equal to average accounts payable is
paid to suppliers by a business.
22 Lecturer: Wesam Zendah - SIST Univers
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 Creditors/Payables Day’s Formula
Average Trade
Beg. A/P + End. A/P
Payables/Creditors =
2

How many times A/P are

Payables Turnover Net Credit Purchases created and Paid
=
Ratio Average Trade Payables during the period.

How many Days

Payables or 365 days Per Year (Period in Days) it will take
= the company
Creditors Day’s Payables Turnover Ratio
to Pay it’s A/P or suppliers
during the period.

23 Lecturer: Wesam Zendah - SIST Univers

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• Example 1: Company γ purchased goods having invoice value of
$243,200 on credit during the year ended Dec 31, 2010. It
returned goods costing $5,900 to suppliers. Accounts payable of
the company on Jan 1, 2010 and Dec 31, 2010 were $23,000 and
$34,900 respectively. Calculate its accounts payable ratio and
A/P Days’

• Solution
Net Credit Purchases = $243,200 − $5,900 =
$237,300
Average Accounts Payable = ( $23,000 + $34,900 )/2
= $28,950
Accounts Payable Turnover Ratio = $237,300 /
$28,950 ≈ 8.2
A/P Days’ = 365 / 8.2 = 44 days

Lecturer: Wesam Zendah - Cardiff

24
University
• Texman company is trying to analyze its working capital over a
whole year period (365 days). It has gathered the following
data:
• Average trade receivables: 40000
• Average trade creditors: 10000
• Average sales 200000 of which cash sales are 60000
• Average purchases 120000 of which cash purchases are 20000
• Average inventory 60000
• Cost of sales are 200000

• Calculate the following and explain their meaning:

1 Trade debtors days
2 Creditors days
3 Stock Days
4 Stock turnover
5 Working capital Cycle

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Consider the company TIMLAND which has traded over a two months
period
January Total Sales: 120,000 Total Purchases: 60,000
Credit sales: 90,000 Credit purchases: 10,000
February Total sales: 100,000 Total Purchases: 70,000
Credit Sales: 30,000 Credit Purchases: 40,000
• The company has paid 6,000 in February and 5000 in January for
previous credit purchases during that two months period.
• The company has received 6,000in February and 15000 in January for
the credit sales it has made during that two month period.
• If the selling price is at 100 and the cost per unit sold is 30 then
compute the following and interpret their meaning:
Required:
Trade debtor’s days
Trade creditor’s days
Stock days
Stock turnover
Working capital cycle

26 Lecturer: Wesam Zendah - SIST Univers

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Consider the company TIMLAND which has traded over a three months period
January Total Sales: 90,000 Total Purchases: 400,000
Credit sales: 30,000 Credit purchases: 10,000
February Total sales: 80,000 Total Purchases: 30,000
Credit Sales: 50,000 Credit Purchases: 20,000
March Total sales: 40,000 Total Purchases: 50,000
Credit Sales: 15,000 Credit Purchases: 12,000
• The company has paid 3,000 in February in January 3000 and in March
9000 for previous credit purchases during that three months period.
• The company has received 15,000in February , in January 6000 and in
March 25000 for the credit sales it has made during that three months
period.
• If the selling price is at 120 in Jan, 125 in Feb , 151 in March and the
cost per unit sold is 70 for Jan, 80 for Feb and 90 for march. compute
the following and explain their meaning:

Required:
Trade debtor’s days
Trade creditor’s days
Stock days
Working capital cycle
Lecturer: Wesam Zendah - Cardiff
27
University
• Texman company is trying to analyze its working capital over a
six months period (Month = 30 days). It has gathered the
following data:
• Average trade receivables: 80,000
• Average trade creditors: 20,000
• Average sales 400,000 of which cash sales are 120,000
• Average purchases 240,000 of which cash purchases are
40,000
• Average inventory 120,000
• Cost of sales are 400,000

• Calculate the following and explain their meaning:

1 Trade debtors days
2 Creditors days
3 Stock Days
4 Stock turnover
5 Working capital Cycle
Lecturer: Wesam Zendah - Cardiff
28
University