Financial management revision question & answer

The following information is provided in respect to the affairs of Pote Limited which prepares its account on the calendar year basis.
Stock and debtors at 1 January 1994 amounted to Sh.70,000 and Sh.98,000 respectively.

Required:
a) Calculate the rate of stock turnover expressed:
i) as a ratio;
ii) in days, for each of the years 1994 and 1995.

b) Calculate the rate of collection of debtors, in days, for each of the years 1994 and 1995.

c) Calculate the rate of payment to creditors, in days, for each year 1994 and 1995.
(3 marks)

d) Show the cash operating cycle for each year.
e) Comment on the results.
ANSWER

d) Cash operating cycle (also called working capital cycle) is the time that elapsed between payment of raw material purchases on credit and receipt of cash on goods sold on credit.


e) The cash operating/working capital cycle declined 33 days due to:
• Significant decline in debtors collection period 30 days. This means the firm adopted a tight credit period which led to decline in stock turnover in 1995.
• Increase in creditors payment period which means the firm has to pay supplier after 36 days (1995) compared to 25 days in 1994.
• The decrease in cash operating cycle is meant to improve the liquidity of the firm.

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