27.3 – Changes in the Operating Cycle
Operating Cycle = number of days in inventory + number of days in receivables
a) Receivables average goes up. Operating cycle increases.
b) Credit repayment times for customers are increased. Operating cycle increases.
c) Inventory turnover goes from 3 times to 6 times. Operating cycle decreases.
d) Payables turnover goes from 6 times to 11 times. No change.
e) Receivables turnover goes from 7 times to 9 times. Operating cycle decreases.
f) Payments to suppliers are accelerated. No change.
27.6 – Calculating Cycles
Inventory Turnover Ratio = Cost of Goods Sold / Average Inventory
Inventory Turnover Ratio = 105817 / [(15382+16147)/2]
Inventory Turnover Ratio = 105817 /…show more content… They carry a larger proportion of current assets relative to their operating revenue than their competitor.
c) Which firm is more likely to incur carrying costs, and which firm is more likely to incur shortage costs? Why?
Carrying costs usually present themselves in 2 forms. Current assets usually have a lower rate of return than fixed assets and therefore represent an opportunity cost to hold them. There is also a cost to maintaining the economic value of an item; an example of this would be warehousing inventory.
Relative to the size of the business, Pnew Brunswick is more likely to suffer more significant carrying costs than Calgary Compressor. Pnew Brunswick holds a greater proportion of current assets relative to total assets in comparison to Calgary Compressor (84% to 53%). Its inventory is comparable in size to that of Calgary Compressor and its account receivables are greater than those of Calgary Compressor. For this reason, Pnew will suffer carrying costs due to the opportunity cost of holding such a high amount of current assets relative to fixed assets as fixed assets tend to have a higher rate of return than that of current assets. Pnew will have high warehousing cost to maintain the value of their