Key Concepts and Skills Be able to compute the operating and cash cycles and understand why they

y are important Understand the different types of short-term financial policy Understand the essentials of short-term financial planning Page 489 Sources of Cash: Obtaining financing Obtaining financing: Increase in long-term debt Increase in equity Increase in current liabilities Selling assets Decrease in current assets Decrease in fixed assets Uses of Cash: Paying creditors or stockholders Decrease in long-term debt Decrease in equity Decrease in current liabilities Buying assets Increase in current assets ____________________________ Stock + short term debt Cash long term debt

The Operating Cycle The time it takes to receive inventory, sell it, and collect on the receivables generated from the sale of the inventory Operating cycle = inventory period + accounts receivable period Inventory period = time inventory sits on the shelf Accounts receivable period = time it takes to collect on receivables Order 0 Days receive product sell collect money 100

The Cash Cycle The time between payment for inventory and receipts from the sale of inventory Cash cycle = operating cycle accounts payable period - Accounts payable period = time between receipts of inventory and payment for it The cash cycle measures how long we need to finance inventory and receivables

Example Information - LERNEN!!!

Item Beginning Inventory 200,000 Accounts Receivable 160,000 Accounts Payable 75,000 Net Sales = 1,150,000 $ Cost of Goods Sold = 820,000 $

Ending 300,000 200,000 100,000

Average 250,000 180,000 87,500

820,000 / 365 = 2246,58 per day In stock: enough for 250,000 / 2,24658 = 111 days Inventory period Average inventory = (200,000 + 300,000)/2 = 250,000 Inventory turnover = 820,000 /250,000 = 3.28 times Inventory period = 365 / 3.28 = 111 days Receivables period Average receivables = (160,000 + 200,000)/2 = 180,000 Receivable turnover = 2,150,000 / 180,000 = 6,39 times Receivables period = 365 / 6.39 = 57 days Operating cycle = 111 + 57 days = 168 days Cash cycle = Operating cycle accounts payable period Accounts Payable Period = 365 / payables turnover Payables turnover = COGS / Averages AP PT = 820,000 / 87,500 = 9.4 times Accounts payables period = 365 / 9.4 = 39 days Cash cycle = 168 39 = 129 days Carrying versus Shortage Costs Carrying costs Opportunity cost of owning current assets versus long-term assets that pay higher returns Cost of storing larger amounts of inventory Shortage costs Order costs the cost of ordering additional inventory or transferring cash Stock-out costs the cost of lost sales due to lack of inventory, including lost customers Temporary versus Permanent Assets Are current assets temporary or permanent? Both! Permanent current assets refer to the level of current assets that the company retains regardless of any seasonality in sales Temporary current assets refer to the additional current assets that are added when sales are expected to increase on a seasonal basis