Changing cash conversion cycle Camp Manufacturing turns over

Changing cash conversion cycle Camp Manufacturing turns over its inventory 5 times each year, has an average payment period of 30 days, and has an average collection period of 67 days. The firm has annual sales of $3.6 million and cost of goods sold of $2.4 million. (Use a 365-day year.) a. Calculate the firm\'s operating cycle and cash conversion cycle b. What is the dollar value of inventory held by the firm? c. If the firm could reduce the average age of its inventory from 73 days to 63 days, by how much would it reduce its dollar investment in working capital?

Solution

Answer a.

Average Inventory Period = 365 / Inventory Turnover
Average Inventory Period = 365 / 5
Average Inventory Period = 73 days

Operating Cycle = Average Inventory Period + Average Collection Period
Operating Cycle = 73 days + 67 days
Operating Cycle = 140 days

Cash Conversion Cycle = Operating Cycle - Average Payment Period
Cash Conversion Cycle = 140 days - 30 days
Cash Conversion Cycle = 110 days

Answer b.

Inventory Turnover = Cost of Goods Sold / Average Inventory
5 = $2,400,000 / Average Inventory
Average Inventory = $480,000

So, dollar value of inventory held by the firm is $480,000

Answer c.

Average Inventory Period = 365 / Inventory Turnover
63 days = 365 / Inventory Turnover
Inventory Turnover = 5.79 times

Inventory Turnover = Cost of Goods Sold / Average Inventory
5.79 times = $2,400,000 / Average Inventory
Average Inventory = $414,508

Decrease in Inventory = $480,000 - $414,508
Decrease in Inventory = $65,492

So, working capital will decrease by $65,492