Consequence of the cash operating cycle, Financial Management

Assignment Help:

Q. Consequence of the cash operating cycle?

The cash operating cycle is the length of time among paying trade payables and receiving cash from receivables. It is able to be calculated by adding together the average inventory holding period and the average receivables' deferral period and then subtracting the average payables' deferral period. The inventory holding period perhaps subdivided into the holding periods for raw materials work-in-progress and finished goods. In words of accounting ratios the cash operating cycle is able to be approximated by adding together inventory days and receivables days (receivables' ratio) and subtracting payables days (payables' ratio). If payables are paid prior to cash is received from receivables the cash operating cycle is positive if receivables pay before trade payables are paid the cycle is negative.

The consequence of the cash operating cycle in determining the level of investment in working capital is that the longer the cash operating cycle the higher the investment in working capital. The length of the cash operating cycle differ among industries for instance a service organization may have no inventory holding period a retail organization will have a inventory holding period based almost entirely on finished goods and a very low level of receivables and a manufacturing organization will have a inventory holding period based on raw materials work-in-progress and finished goods. The stage of investment in working capital will thus depend on the nature of business operations.

The cash operating cycle as well as the resulting level of investment in working capital does not depend only on the nature of the business however. Companies within the similar business sector may have different levels of investment in working capital measured for example by the accounting ratio of sales/net working capital as a result of adopting different working capital policies. A moderately aggressive policy on the level of investment in working capital is characterized by lower levels of inventory and receivables this lower level of investment raises profitability but also increases the risk of running out of inventory or of losing potential customers due to better credit terms being offered by competitors. A moderately conservative policy on the level of investment in working capital has higher levels of investment in inventory and receivables: profitability is consequently reduced but the risk of stock-outs is lower and new credit customers may be attracted by more generous terms.

It is as well possible to reduce the level of investment in working capital by reducing the length of the cash operating cycle. This is achieved by decreasing the inventory holding period (for example by using JIT methods) by reducing the receivables deferral period (for example by improving receivables management) or by increasing the payables deferral period (for example by settling invoices as late as possible). In this manner an understanding of the cash operating cycle can assist in taking steps to improve working capital management and profitability.


Related Discussions:- Consequence of the cash operating cycle

Problem in the determine of cost of the capital, Q. Problem in the determin...

Q. Problem in the determine of cost of the capital? Conceptual controversies regarding the relationship between the cost of the capital and the capital structure: different the

Leverage, what is financial leverage

what is financial leverage

Domestic bonds, They are issued in the local market by a domestic bor...

They are issued in the local market by a domestic borrower and are usually denominated in the local currency. For example, US companies issuing bonds to US reside

Equity stock, the stock of akpan ltd performs well during recessionary peri...

the stock of akpan ltd performs well during recessionary periods, and the stock of okon ltd does well during growth periods. both stocks are currently selling for Rs 100 per share

Explain about loans - forms of bank finance, Q. Explain about Loans - Forms...

Q. Explain about Loans - Forms of Bank Finance? When a bank makes an advance in lump-sum against some security it is called a loan. In Case of a loan, a specified amount is san

State the term- adequate working capital, State the term- adequate working ...

State the term- adequate working capital If a firm doesn't have adequate working capital, that is, it doesn't invest sufficient funds in current assets, it can become illiquid

Show inter-corporate deposits, Q. Show Inter-Corporate Deposits? Inter-...

Q. Show Inter-Corporate Deposits? Inter-Corporate Deposits: Inter-corporate lending/borrowing or deposits (ICDs) is a popular short-term investment alternative for companies in

Why depreciation play in estimating incremental cash flows, What role does ...

What role does depreciation play in estimating incremental cash flows? Depreciation expense is a tax deductible expense and thus affects cash flow through its effect on taxes.

Explain the meaning of compound interest compounded yearly, $7000 are inves...

$7000 are invested at 5% per annum compound interest compounded yearly.  What would be the amount after 20 years? Solution Here i = 0.05, P = 7000, and n = 20. Putting it i

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd