Working Capital Management (graded)

Do some research on two firms in your industry or an

industry in which you are interested. Can you get an idea
of their working capital management policies from publicly
available information? How do the two companies differ in
their apparent working capital management policies?
Which policy do you think is better and why?
For your second post, consider the company you work for
or a company in which you are interested. Also, do some
research to find some current cost estimates for various
means of financing working capital. What would be your
recommendation to the company for financing its working
capital needs? If the information is publicly available, or if
you have access to it and have permission to discuss it,
how does your recommendation compare what the firm is
actually doing?
For your next post, explain the cash conversion cycle
(CCC). Describe the CCC for your employer or company in
an industry in which you're interested. What are some
specific things that your company could do to decrease
your cash conversion cycle? Let's be sure to describe, in
pretty specific terms, the CCC for our company and what
could be done to shorten it.

_________
(an instructor response)
Class:

What is the difference between a firm's cash cycle and operating cycle? How does
working capital impact a firm's value? Why would a company choose to hold cash?
What trade-off does a firm face when choosing how to invest its cash?

_________
How does working capital impact a firm's value?

The working capital management is so important; a company will need to formulate

clear policies concerning the various components of working capital. Key policy
areas relate to the level of investment in working capital for a given level of
operations and the extent to which working capital is financed from short-term
funds such as a bank overdraft.

A company should have working capital policies on the management of inventory,

trade receivables, cash and short-term investments in order to minimize the
possibility of managers making decisions which are not in the best interests of the
company. For instance suboptimal decisions are giving credit to customers who are
unlikely to pay and ordering unnecessary inventories of raw materials.

Source: http://catalogue.pearsoned.co.uk

_________
The difference between cycles:

Cash cycle is the average time it takes for the firm to pay cash for the previous
inventory and receives the money from the salve of that inventory.

The operating cycle is the amount of time that the company first buys the inventory
and then receives cash back from selling it. This cycle is the entire length of the
cycle, but cash cycle is a portion from when the company pays for the inventory to
the time they receives payment for the paid product.

The difference is operating cycle is the entire length of process, when cash cycle is
not.

Working capital helps increases a company’s value by reducing its net working
capital amount to in-return to distribute that same amount as a dividend to the
company’s shareholders, which also has the ability to increase the value of company.

A reason why a company would hold cash on hand because the liquidity of money
has a cost of holding liquid assets could earn a low market return and there are
transactions cost if the company needs to raise cash in a hurry.

The many reasons to hold cash are to: meet daily needs, compensate for uncertain
cash flows, and satisfy bank requirements.

Berk, J., DeMarzo, P. (02/2013). Corporate Finance, 3rd Edition. [VitalSource

Bookshelf Online]. Retrieved from
https://bookshelf.vitalsource.com/#/books/9781269615303/
_________
Just to add to why companies would hold cash would be under three reasons:
speculation, precaution, and transaction. All three of these situations require
liquidity. For speculation there could be a situation that a company wants to be able
to take advantage of if the opportunity presented itself. An example could be if the
company is offered a large discount on inventory or supplies, they want to be able to
have the cash available to be able to take advantage of a deal like that. Under
precaution this could be simply an emergency fund for the firm. Something
unexpected and potentially catastrophic could happen which requires them to have
to put cash out now. Let say you have some inventory that you were holding for a
customer and it got damaged due to a power outage or storm. You could possibly
replace that inventory in enough time before your customer comes to pick it up.
Lastly for transaction purposes, transactions create cash inflows and outflows, a
company wants to make sure they have the cash on hand to be able to process
transactions. On a small scale imagine you had a convenient store. If you do not
have enough cash on hand how will you be able to process possible cash
transactions? Can't give customers their change if you don't have any cash.

http://www.studyfinance.com/lessons/workcap/?page=01

_________
The difference between the operating cycle and the cash cycle:

The operating cycle is how long it take between acquiring inventory (on credit) and
when it receives cash from selling the acquired inventory.

The cash cycle is the amount of time between paying for inventory and and getting
cash from back the sale of the inventory.

Often used interchangeably but there is a difference.

_________
The two are very different and they both effect financial statements. I think it is best
to receive cash verses getting inventory on credit which will depend on the vendors
credibility with paying their past debts. The cash cycle is moreso frequent where it
is due for the most part then and there where operating cycle takes a little more
time and the business is able to give the a set time on receiving money from
previous purchases.
_________
I do agree with you about the it is best to receive cash vs credit anytime. That's on
any level, if I sold you a old pair of shoes, and you gave me cash. I can automatically
go out and get another pair. But if you give me credit towards an old dept or on hold
type of deal where I have to wait, I can't by me those shoes I wanted today.

On another note, both operating and cash cycles measure how the company is
keeping up with there cash. When the money is in tied up in some type of
investment they cannot use it. Therefore, it is best to keep both short.

The formula for Operating Cycle is: days sales of inventory+days sales outstanding

Alternative formula:
365/purchases * average inventory +365/credit sales * average account receivable

Cash Cycle also known as Cash Conversion Cycle formula is: DSO+DIO+DPO

DSO= days sales outstanding= Average accounts receivable *365/credit sales

DIO= days inventory outstanding= Average inventory * 365 /cost of goods sold
DPO= days payable outstanding = Average accounts payable * 365 / cost of goods
sold

Alternative:
Operating cycle-DPO

Both cycles is use for similar reasons. Operating cycle offers the company the
understanding of company's productivities or effectiveness. Whereas, cash cycle
show them how well they are doing at managing their cash flow. Good to manage
them separately but also together cause they bonus off one another.

_________
You make some good points Rebecca. I do think having cash is good but credit is as
well. I think it is best for firms to have a good AR turnover meaning they receive
their credit sales in a good amount of time. I also believe that it builds the firms
credibility because it shows that they company can pay their debt and having good
credit from buyers the firm is good with paying their bills regardless if they have
money on the side.

_________
I do agree with you on that note also Chanina, but with the cash cycle, cash on hand
is better for the company. When the cash is tied up, they can not invest it in
something else. They have to wait on all those credits to come through.

_________

(an instructor response)

Class:

How will a firm's cash cycle be affected if a firm increases its inventory, all else
being equal? How will a firm's cash cycle be affected if a firm begins to take the
discounts offered by its suppliers, all else being equal? Does an increase in a firm's
cash cycle necessarily mean that a firm is managing its cash poorly?

_________
I believe ideally a company wants to keep cash on hand as much as possible. If a firm
increases inventory that is cash sitting on the shelf. Unfortunately until the
inventory is sold it is not cash. This will make the firm's cash cycle longer. The
question is why would a firm want to increase its inventory? Are they having
trouble filling orders? Unfulfilled orders is another source of missed cash
opportunities. So increasing inventory does have the potential of increasing the
firm's cash cycle but in a situation like that it seems that is a temporary issue. This
is probably were the idea of just in time (JIT) inventory process came into play.
Companies want the cash to be flowing, efficiencies in processes such as inventory
are ways to help keep it flowing.

_________
Having too much inventory could be a problem but it also depends on the reason
behind the great amount of inventory.

The problem was back 30-50 years ago when companies would stockpile large
amounts of raw materials, load up the shop floor with work-in-process and pack
warehouses with finished goods. This is no more of what the future is line for
efficient companies. The old way is based by inconsistent lead times of high cost and
required too much cash for working capital.

At times many senior executives believed that reducing their inventories was a big
issue while others viewed inventory as huge amounts of cash while others
understood that high inventories were a big problem that money is being tied up
and could be spent effectively in other investments.
We all know that inventory is known of assets of a company and the intentions for
sale. The relationship between cash and inventory is based by the company’s choice
of inventory accounting method and level of inventory that is chosen for their
stocks, inventory cost, and the ability for the company to sale the product in
exchange for their stocks. Managing corrective inventory will boost cash flow, while
poor management will cause problems in cash flow.

Avenir, R., How Does Inventory Affect cash Flow?

http://yourbusiness.azcentral.com/inventory-affect-cash-flow-9395.html

Donovan, M., Reduce inventories and improve business performance

http://www.reliableplant.com/Read/141/reduce-inventories

_________
Some companies prefer to increase their inventory because they have received it at
a discounted rate and what they are selling the product for is over what they have
paid. If sold in a timely manner they will increase the cash cycle. On the other hand,
if they do not sell at the regular price but a discounted price they still have sold the
product. For example, let say Acme they also have a buy one get one free deals on
lets say boneless chicken breast, now a customer picks two and gets to check out
they end up paying for the highest out of the two unlike me I check for the two
lowest prices which are high and buy that way. To say all this the items are being
sold regardless the company will still make a type of profit.

_________

That is true but some companies make big mistakes when ordering too much
inventory.

Other reasons they could be ordering is getting a good bundle deal of raw material
on the products. Or many lets say the price of wood goes up because there will be a
shortage of a particular wood to make furniture. Maybe the shortage is that there
was a forest fire or something to cause the shortage of wood.

Maybe the company will buy as much wood when they heard on the news about the
fires and decides to buy much at normal cost before prices goes up.

This maybe a good idea when it comes to forecasting purchase based on a disaster.

Not all bulk buying is useful.

In your case of the chicken its a great idea I have bought the bogo deals. All
companies will give you the half off on the lowest prices item. it just makes that
much sense to for profits, but if an item is equally the same its like your getting
double product for you same money you was gonna buy anyway if you were to buy
only one.

_________
Does an increase in a firm's cash cycle necessarily mean that a firm is managing its
cash poorly?
No. The increase may be due to a conscious management decision. For example, a
firm may decide to increase its inventory in order to avoid excessive stock-outs that
it has been experiencing. All else equal, this would result in an increase in its cash
cycle. Or, a firm may decide to loosen its credit policy in order to attract customers
from its competitors. This would result in an increase in accounts receivable days,
and all else equal, result in an increase in the firm’s cash cycle. And if a firm chooses
to take the discounts offered by its suppliers, the accounts payable days will
decrease, leading to an increase in the firm’s cash cycle.

_________
The cash cycle becomes longer once inventory increase. This could be seen as a
problem telling that the firm is possible "having trouble moving inventory or
collecting on its receivables."

Reference:

www2.fiu.edu/~keysj/PK14_Notes.doc

_________

If a company does increase inventory it will then have more inventory than goods
sold. When inventory is purchased it requires cash to outflow resulting in a negative
amount in the statement of cash flows. The main goal of a company is to sell its
inventory as fast as possible. The cash conversion cycle is how many days it takes a
company to pay for its inventory and how many days it takes its suppliers. It would
still would be best at a discounted rate for a company to pay off it suppliers as soon
as possible. No a increase in cash cycle may not mean the company is doing poorly.
It could mean having a hard time paying off suppliers but cash flows should be
observed over a period of time to properly measure a company's success.
Reference

1.) Averkemp., H. (2016). Why is an increase in inventory shown as a negative

amount in the statement of cash flows? Retrieved July 15, 2016.
From<www.accountingcoach.com>.

_________
How will a firm’s cash cycle be affected if a firm increases its inventory, all else being
equal? If a firm’s cash increases its inventory, its inventory days will increase, all
things will be equal and this will increase the cash cycle.

How will a firm’s cash cycle be affected if a firm begins to take the discounts offered
by its suppliers, all else being equal? If a firm begins to take discounts offered by its
suppliers its accounts payable days will decrease all else equal. This will cause the
cash cycle of the firm to increase.

_________

(an instructor response)

How do we forecast the firm's future cash requirements? What is the effect of
seasonalities on short-term cash flows? Why might a company choose to finance
permanent working capital with short-term debt?

_________
We can forecast the firm's future cash requirements by estimating sales weekly and
monthly by knowing when the business should be expecting to receive cash whether
it be right away or a future date. The firm should estimate how much the company
spends on fixed and variable cost. Then revenue minus expenses (Lohrey & D,
2016).

The effect of seasonality on short- term cash flows is that inventory management is
important because consumer demand skyrockets and then dramatically falls. When
inventory is order for seasonal sales it is order way ahead of time which does put
pressure on existing working capital if sales and accounts receivable are not enough
to cover expenses. During seasonal sales accounts receivable may be used to be the
main source of income. Internal accounts receivable that are paid off quickly and are
good at collecting overdue payments are very important in looking at the effect of
working capital during seasonal sales. Cash flow management is just as important
during the season and after the season. The business might have a yearly forecast in
which there is a certain amount of funds reserved for the seasonal spike. If the
business exceeds the amount of money on hand, then it reinvest its money cash
equivalent investments. Short-term financing is considered despite forecasting the
minimum amount of cash requirements fall (Wood, 2013).

A company might choose to finance permanent working capital with short-term

debt because a company may not have the cash on hand for daily operations so they
take out a working capital loan (Investopedia, 2016).

References

1.) Lohhey, J & Studio D. (2016). The Effects of Seasonality Working Capital.
Retrieved August 19, 2016. From <http://yourbusiness.azcentral.com/>.

2.) Wood, M. (2013). 4 Tips for Accurate Cash Flow Forecasting. September 12,
2013. Retrieved August 19, 2016. From<http://www.foxbusiness.com/>.

3.) Investopedia. (2016). Working Capital Loan. Retrieved August 19, 2016. From
<http://www.investopedia.com/>.

_________
(an instructor response)

Let's switch topics a bit and talk about financial planning. What external sources of
information may be useful to someone doing financial planning? Have you
experienced the results of inadequate financial planning? Tell us about it.

_________
Business information can come from many different sources such as statistics,
books, articles, friends, customers, and vendors. Useful information to someone
doing finance planning would be financial statements, business plan, internal
financing, external financing, sources of loans, how to deal with loans. The results of
inadequate financial planning would be not budgeting my personal finances well
enough to deal with unexpected occurrences and I had to borrow from other
sources, such as friends and family.

References
1.) www.inc.com. (2016). Business Information Sources. Retrieved August 20, 2016.
From <http://www.inc.com/>.
2. Myagkova, A & Others. (2016). Financing Your Business: A Guide for Sustainable
SMEs. Retrieved August 20, 2016. From
<http://marketplace.fastinternational.org/>.

_________
Hi All, depending what type of financial planning you are doing like business or
personal can have many different sections. If you have to financial plan to buy a
home seeking out first the information of what you should do such as saving and
clearing up your credit. If its for you business designing a budget that best fits the
target company and plan for there. It is always best to create a budget to begin
because you will able to layout a plan and work from that point.

_________
Financial planning depends on who is the planning being planned for. Let discuss a
company's financial planning we can do a long term and a short term plan.

Short term planning worries mostly about current asset and current liabilities, or
working capital and operating cash flows. All of the company's current liability
obligations must be met when due.

Long term planning is a combination of financial forecasting and strategizing which

works best as part of the whole strategic planning.

_________
(an instructor response)
Class:

How does financial planning in a large company differ from financial planning in a
small company? In today's chaotic environment, planning doesn't make any sense.
All a plan does is show you what isn't going to happen. Please comment.

_________

Financial planning is a more serious exercise among larger companies than smaller
companies. In larger companies, the department heads are involved in creating the
budget process. The plan is then approved by senior management before it is
viewed by the board of directors. Large companies use data to make decisions. Small
companies study trade publications, and talk to customers, suppliers, and
competitors
(Hill,2016). Planning is good because it helps companies prepare for the next year.
Although things do not always go as planned, planning is the best way a business
can prepare for the future.

Reference
1.) Hill, B. & D, S. (2016). How Does Planning in a Small Firm Compare to a Large
Business. Retrieved August 21, 2016. From <http://smallbusiness.chron.com/>.

_________
I disagree... planning makes perfect sense. Planning enables a firm to develop ways
to meet goals developed for the organization by management. Although it is true,
many of the plans developed never come to fruition, I believe the old adage to be
true... if you fail to plan... plan to fail. Planning gives managers an opportunity to
review several projects, consider the financial obligations to the firm and make a
decision on whether to accept or reject a project.

_________
I am not sure I understand your post. Are you saying that financial planning is more
for a larger firm than it is for a smaller firm? If so, Virna, I agree with you. Financial
planning is for everyone even myself as a homeowner. As for a company small or big
need to have some type of financial plan set for the company. Can you imagine a
company being ran without a financial plan?

A company should always be ready for the worst. Therefore, they need to plan for
the worst. Do you not have a financial plan for your home? Like repairs that maybe
needed or something.

_________
I think Tara is saying that the level and detail of the financial planning process is
more robust in larger companies than in smaller companies. We can use an extreme
example. I would think that the majority of small businesses are probably sole
proprietorships. How many people in that business would it take to approve a
budget? IN a large business how many people would it take to just approve a
department budget let alone a budget for the whole company. Smaller companies
do not have the resources available that larger companies do. No matter the size
some level of financial planning should be taking place.