Question
Cash Conversion Cycle Read the following case. The Working Capital portion of the Balance Sheet (Current Assets and Current Liabilities) for the company has been
Cash Conversion Cycle
- Read the following case. The Working Capital portion of the Balance Sheet (Current Assets and Current Liabilities) for the company has been included at the end of the scenario.
- Follow the instructions and answer the questions at the end of the case.
- You will need to calculate three different Cash Conversion Cycles
Grenville Transport and the Cash Conversion Cycle
Hamel Sandhu, Purchasing Manager for the Maritime region of Grenville Transport, put down the phone. Another irate supplier had called him saying that the payment on his invoice was overdue, this time by 50 days. The suppliers sales representative said that if it wasnt paid immediately, Grenvilles purchase order would no longer be honored and Grenville would be out of lube and maintenance supplies. Hamel had had at least half a dozen calls like that in the past two weeks. The calls were from long time suppliers who had been cutting the company slack for months for invoices not being paid on time, but now they were tired of waiting for their money. Hamel had talked to his boss, Steve Lee, who, in turn, had talked to Accounting in Winnipeg where the head office was. The company Controller, who headed the Accounting department, told Lee to find a supplier who liked being paid in 60 days or to negotiate those terms with current suppliers, as 60 days on payables was now the company policy. When Lee asked why the policy had changed from 30 days, he was told 30 days tied up too much cash. Lee and Sandhu sat down to talk over the situation. It was clear that Accounting in Winnipeg would continue to pay late unless they came up with a reason that made the new policy look like a poor business decision. To Sandhu and Lee, losing trustworthy, reliable long-standing suppliers seemed to be as bad a business decision as you could make, but it didnt seem to bother Winnipeg as long as Head Office got cash. The men were silent for a moment and then Sandhu said, You know, those suppliers are pretty ticked off but I dont think they want to lose us as a customer either. Maybe we could negotiate some early payment terms if they knew how late we were planning to pay them.
Right, Lee agreed. We need to know what kind of a discount would help us. Lets dig out last quarters financial statements and, Hamel, would you please do a little analysis on our cash situation? Well compare the current working capital to the new targets, and see if we can come up with a plan to keep paying our customers on time. I think we have to convince head office we can reduce the Cash Collection Cycle without extending our payables. Lets meet first thing in the morning.
Cash Conversion Cycle, continued
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Grenville Transport credit terms are 30 days. Its inventory target is 60 days. |
Grenville Transport Ltd.
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Working Capital from the Balance Sheet as of March 31, 2007
Cash Conversion Cycle, continued
Grenville Transport Ltd. Case Questions
- Using the current statements and calculate the length of Grenvilles current Cash Conversion Cycle.
- Using the current statements and the new policy of 60 days for DSP, calculate the new Cash Conversion Cycle. Ignore the actual Accounts Payable value and substitute 60 days for DSP.
- Use the target values for DSO and DSI and the current value for DSP to determine what the companies Cash Conversion Cycle would be if it actually achieved its three former targets.
- Which cash management policy is bettercurrent levels of Accounts Payable and Inventory and a 60 day Accounts Payable policy or meeting the current targets for DSO and DSI and leaving DSP at 30 days?
- What would the new values be for Accounts Receivable and Inventories if the company achieved their targets? How much cash would be released?
- What else can the company do with payables and receivables and inventory to improve their cash position?
Questions 1 to 3 and 5 are calculations. Use the chart below to organize your work.
Exercise 6 (Day 2) Cash Conversion Cycle, continued
| Current Policy (30 days for Payables) | New Policy former DSO and DSI values but 60 days for DSP | Former 30- day DSP but hitting DSO and DSI targets |
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Current Levels | Levels when targets are achieved (Daily Sales x days) |
Amount of cash released when targets are achieved |
Days Sales Outstanding |
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| Accounts Receivable |
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Days Sales in Inventory |
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Inventories |
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Days Sales in Payables |
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| Accounts Payable |
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Cash Conversion Cycle |
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| Cash tied up in Current Assets |
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Question 4: Which cash management policy is bettercurrent levels of Accounts Payable and Inventory and a 60 day Accounts Payable policy or meeting the current targets for DSO and DSI and leaving DSP at 30 days?
Question 6: What else can the company do with payables and receivables and inventory to improve their cash position?
Cash Conversion Cycle, continued
Space for your notes and calculations:
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