Edison Inc.has annual sales of $36,500,000,or $100,000 a day on a 365-day basis.The firm's cost of goods sold is 75% of sales.On average,the company has $9,000,000 in inventory and $8,000,000 in accounts receivable.The firm is looking for ways to shorten its cash conversion cycle.Its CFO has proposed new policies that would result in a 20% reduction in both average inventories and accounts receivable.She also anticipates that these policies would reduce sales by 10%,while the payables deferral period would remain unchanged at 35 days.What effect would these policies have on the company's cash conversion cycle? Round to the nearest whole day.

Question

Quizplus · Accepted Answer

First, we need to calculate the current cash conversion cycle:

Cash conversion cycle = DIO + DSO - DPO

where DIO is days inventory outstanding, DSO is days sales outstanding, and DPO is days payable outstanding.

DIO = (average inventory / cost of goods sold) * 365 = (9,000,000 / (0.75 * 36,500,000)) * 365 = 33 days
DSO = (accounts receivable / sales) * 365 = (8,000,000 / 36,500,000) * 365 = 80 days
DPO = 35 days (given)

Cash conversion cycle = 33 + 80 - 35 = 78 days

Next, we need to calculate the new values for DIO and DSO after the proposed policies are implemented:

New DIO = 0.8 * 33 = 26.4 days
New DSO = 0.8 * 80 = 64 days

We also know that sales will decrease by 10%, which means the new sales will be:

New sales = 0.9 * 36,500,000 = 32,850,000

Finally, we can calculate the new cash conversion cycle:

New DPO = 35 days (unchanged)
New cash conversion cycle = New DIO + New DSO - New DPO
= 26.4 + 64 - 35
= 55.4 days

The reduction in the cash conversion cycle is:

78 - 55.4 = 22.6 or approximately 23 days, which rounds to -22 days.

Therefore, the answer is B) -22 days.