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Cash conversion, inventory, and receivables management

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Bracelet Blanks, Inc. (BB) generated $43,803,000 in sales (all on credit) during 2010. The cost of goods sold was 57% of that total. Accounts receivable totaled $3,240,222, inventory totaled $842,020, and accounts payable totaled $1,826,070.

1. Calculate BB's current cash conversion cycle.

2. BB currently uses 3,000 ingots of aluminum each year to manufacture bracelet blanks. The order cost (including shipping) is $5,000 per order, and carrying costs are $75 per unit per year. Determine the economic order quantity, the amount of safety stock, and the reorder point for aluminum ingots assuming there is a 1-week lead time and the firm would like a safety stock of 3%.

3. In an attempt to boost sales, BB is considering relaxing its credit standards by extending more credit to small firms. BB charges $1.50 per unit. Variable costs are $0.5126 per unit and fixed costs are $10,000,000 per year. The relaxation of credit standards is expected to result in a 3.8% increase in sales (the firm has sufficient excess capacity to handle the increase) as well as an increase of three days in the average collection period. They also expect bad debts to rise from the current level of 0% to 0.5% of sales. Assuming that BB requires a 13% return on investments of this type, should the firm relax its credit standards?

4. Additionally, BB currently offers its credit customers terms of net 30. However, it is considering changing the terms to 2/10 net 30 in an attempt to reduce the amount of time it takes to collect its accounts receivable. The firm believes this change alone would decrease the average collection period by five days. BB also expects that 63% of its customers will elect to pay within the discount period and that the increased attractiveness of the terms will increase sales by 1% a year. It is not expected that bad debts will change from the current level of 0% as a result of this change in terms. BB's opportunity cost of funds invested in accounts receivable is 10%. Should the firm offer the cash discount? Evaluate this scenario separately from the one described in question 3.

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Bracelet Blanks, Inc. (BB) generated $43,803,000 in sales (all on credit) during 2010. The cost of goods sold was 57% of that total. Accounts receivable totaled $3,240,222, inventory totaled $842,020, and accounts payable totaled $1,826,070.

1. Calculate BB's current cash conversion cycle.

2. BB currently uses 3,000 ingots of aluminum each year to manufacture bracelet blanks. The order cost (including shipping) is $5,000 per order, and carrying costs are $75 per unit per year. Determine the economic order ...

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Solution discusses the Cash conversion, inventory, and receivables management

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Working Capital Management Case Study -Xtreme Toys

Xtreme Toys® is a small manufacturing company in Southern California. Management is concerned because as their sales have grown, their cash flow has shrunk. Management doesn't understand how this could happen and has approached your team to find a solution for this dilemma.

1) Part A:
Calculate the following:

a) Inventory conversion period

b) Payables deferral period

c) Receivables conversion period

d) Operating cycle

e) Cash conversion cycle (cash gap)

If the company's cost of funds is 8%, what is the annual cost of financing the cash gap?

2) Part B:

Explain to Xtreme Toys® management how rising sales could cause a decrease in the company's cash position and provide three specific recommendations to management on ways to reduce the cash gap. Explain to management why monitoring and managing the cash conversion cycle is important to the overall profitability of the company.

3) Part C:

Assume your recommendations have now resulted in Xtreme Toys® being able to reduce their cash gap by 20 days. Calculate the amount of additional cash that Xtreme Toy® will now have on hand and the savings on the annual cost of financing the cash gap at 8%. What tax considerations need to be factored into your analysis?

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