Casa de Diseos Existing Operating Cycle - Case Study Example

Assuming a constant rate for purchases, production, and sales throughout the year, what are Casa de Diseño’s existing operating cycle (OC), cash conversion cycle (CCC), and resource investment needs?

OC= AAI + ACP
= 110 + 75
= 185
CCC = OC – AAP
= 185 – 30
= 155
COE = 26,500,000 / 365
= 72, 602.74
Resources needed= 72,602.74 x 155
= 11,253,424.70
If Leal can optimize Casa de Diseño’s operations according to industry standards, what will the company’s operating cycle (OC), cash conversion cycle (CCC), and resource investment need to be under these more efficient conditions?

OC= AAI + ACP
= 83 + 75
= 158
CCC = OC – AAP
= 158 – 39
= 119
Resources needed= 72,602.74 x 119
= 8,639,726.06
In terms of resource investment requirements, what is the cost of Casa de Diseño’s operational inefficiency?
Cost of operational inefficiency:
Needed resources $11,253,424.66
Less: needed industry resources $8,639,726.03
$2,613,698.63 x 15% =$392,054.79

Answer the following
If in addition to achieving industry standards for payables and inventory, the firm can reduce the average collection period by offering credit terms of 3/10 net 60, what additional savings in resource investment costs will result from the shortened cash conversion cycle, assuming that the level of sales remains constant?
OC= AAI + ACP (Davis & Davis, 2012)
= 83 + 45
= 128
CCC = OC – AAP ((Brigham & Houston, 2012))
= 128 – 39
= 89
Resources needed= 72,602.74 x 89
= 6,461,643.86
Savings = 8,639,726.06 – 6,461,643.86
= 2,178,082.20
If the firm’s sales (all on credit) are $40,000,000 and 45% of the customers are expected to take the cash discount, by how much will the firm’s annual revenues reduce as a result of the discount?
$40,000,000 x 3% = 1,200,000
$ 1,200,000 x 45% = 540,000

If the firm’s variable cost of $40,000,000 in sales is 80%, determine the reduction in average investment in accounts receivable and the annual savings that will result from this reduced investment, assuming that sales remain constant.
New AC P = 45 days
($40,000,000 / 0.80) / (365 / 45) = $3,945,205
Average investment in accounts receivable assuming no cash discount:
=(40,000,000 / 0.80) /(365 / 75) = $6,575,342
Reduction in investment in accounts receivable:
= $6,575,342 - $3,945,205 = $2,630,137
Annual savings: $2,630,137 / 0.15= $ 394,521
If the firm’s bad debt expenses decline from 2% to 1.5% of sales, what annual savings will result, assuming the sales remain constant?

Reduction in bad debt expense:
=$40,000,000  (0.02 - 0.015)= $ 200,000
Use your findings in parts ( 2) through ( 4) to assess whether offering the cash discount can be justified financially. Explain why or why not.
Cost of offering cash discount ($ 540,000)
Annual savings from a reduction in investment in accounts receivable 394,521
Annual savings from a reduction in bad debt expense: 200,000
Savings due to a cash discount of $ 54,521
Therefore, offering a cash discount can be termed a prudent idea because the company is saving a lot compared to the cost it is incurring in offering the cash discount. Read More