Zycad has sales of $110 million a year. If Zycad reduces its processing float by 3 days, what is the increase in the firm's average cash balance? (Assume 365 days per year.)

Question

Quizplus · Accepted Answer

Processing float is the time between when a company receives a payment and when it has collected the funds. By reducing the processing float by 3 days, Zycad will be able to collect cash from its sales 3 days earlier, on average. If we assume that Zycad's sales are evenly distributed throughout the year, the company will be able to collect 3/365 or approximately 0.0082 of its annual sales, or $902,439. However, this assumes that Zycad will be able to use the funds it collects 3 days earlier to increase its average cash balance immediately. Since this may not be the case, we can adjust our estimate downward to account for the time it will take for the company to build up its cash balance. A conservative estimate might be to assume that it will take the company a full year to achieve this increase in average cash balance. This would imply an increase of $902,439/365 = $2,472 per day. Multiplying this by the 365 days in a year, we get an estimated increase in Zycad's average cash balance of approximately $902,439, or choice B.

Zycad Has Sales of $110 Million a Year