The document discusses managing working capital through the cash conversion cycle and cash budgeting. The cash conversion cycle measures the time between paying for inputs and collecting cash from sales. It has three components: inventory conversion period, average collection period, and payables deferral period. A cash budget forecasts cash receipts, payments, and balances over time by projecting collections, purchases, expenses and the resulting net cash flow. An example cash budget is provided for a company over the last half of 2013.
2. How can we effectively
managed Working Capital?
16-4. Cash Conversion Cycle
16-5. Cash Budget
3. 16-5. The Cash Conversion
Cycle
The length of time funds are tied up in
working capital, or the length of time
between paying for working capital
and collecting cash from the sale of
the working capital.
4. Components of CCC
1. Inventory Conversion Period
2. Average collection Period
3. Payables Deferral Period
5. Inventory Conversion Period
The average time required to convert
raw materials into finished goods and
then to sell them.
Average Collection Period
The average length of time required to
convert the firm’s receivables into
cash, that is, to collect cash following
a sale.
6. Payables Deferral Period
The average length of time between
the purchase of materials and labor
and the payment of cash for them.
7. Sample Problem:
On Day 1, GFI buys merchandise and
expects to sell the goods and thus
convert to Accounts Receivable in 60
days. It should take another 60 days
to collect the receivables, making a
total of 120 days between receiving
merchandise and collecting cash.
However, GFI is able to defer its own
payments for only 40 days to it’s
suppliers.
8. CCC Basic Formula
Inventory Conversion Period
Average collection Period
Payables Deferral Period
60 DAYS
60
(40)
80 DAYSCCC
( ADD )
( LESS )
9. Inventory Conversion
Period
Average collection
Period
Payables Deferral
Period
Inventory
Cost of Goods sold/365
Receivables
Sales per/365
Payables
Cost of Goods sold/365
10. 16-5. The Cash Budget
A table that shows cash receipts,
disbursements and balances over
some period.
A primary forecasting tool of the firm’s
cash flows.
Cash budgets can be of any length,
daily, quarterly or monthly.
11. Steps of Cash Budget:
1. Begin with a sales forecast for each
month and a projection of when
actual collections will occur.
2. Followed by forecast payments for
purchases and forecasted payments
for materials, labor, leases, new
equipment, taxes and other
expenses.
12. Steps of Cash Budget:
3. Then subtract forecasted collections
from forecasted payments in order to
have net cash gain or loss for each
month.
4. The gain or loss is added or
subtracted from the beginning cash
balance, and the result is the amount
of cash the firm would have on hand
at the end of the month if it neither
borrowed nor invested
13. XYZ Co. (for the last half of 2013)
• Collections during the month
• Collections during the 1st month after
sale (prior month’s sale)
• Collections during the 2nd month
after sale (Sales 2 months ago)
• Percent Bad Debts
• Discount on first month of collections
• Purchases(% of next month’s sales)
• Lease payments
• Construction cost for new plant (Oct)
• Target Cash Balance
20%
70%
10%
0%
70%
$15
$100
$10
2%
14. May June July Aug. Sept. Oct. Nov. Dec.
Sales(gross) $200 $250 $300 $400 $500 $350 $250 $200
Collections
During the month of sale:
0.2(Sales)(.98)
59 78 98 69 49 39
During the prior month's sales: 0.7
175 210 280 350 245 175
Sales two months ago: 0.1 20 25 30 40 50 35
Total Collections 254 313 408 459 344 249
Purchases: 70% of next month's
sales
210 280 350 245 175 140
Estimated Disbursements:
Last month Purchases of Materials
210 280 350 245 175 140
Wages and Salaries 30 40 50 40 30 30
Lease payments 15 15 15 15 15 15
Other expenses 10 15 20 15 10 10
Taxes 30 20
Payment for Plant Construction 100
Total Payments 265 350 465 415 230 215
15. Net Cash flows:
Net Cash flows for month:
(Collections-Payments)
-11 -37 -57 44 114 34
Cumulative NCF: (prior month cum.
NCF plus this month NCF)
-11 -48 -105 -61 53 87
Cash Surplus for loan requirement
Target Cash Balance
10 10 10 10 10 10
Surplus Cash for Loan Needed: (Cum.
NCF minus Target cash Balance)
-21 -58 -115 -71 43 77
Maximum Required Loan
$-115
Maximum Available
Investment
$77
