Working capital ratios - short term finance Flashcards
definitions, +tives, -tives (27 cards)
Working capital is defined as
the amount of cash and current assets a business has available after its current liabilities are accounted for
Inventory days is defined as
the average number of days a company holds inventory before selling it
In SFP inventory days is a
current asset
Inventory days =
Average inventory/Cost of sales x365 to show as days
High inventory days is good because
low risk of stock outs, no expensive last minute purchases if surge in demand
High inventory days is bad because
the business receives cash for goods slower, high holding costs, high obsolescence risk
Low inventory days is good because
the business receives cash for goods quicker, low holding costs, low risk of obsolescence
Low inventory days is bad because
high risk of stock outs - leading to loss of sales and reputation, may need to make expensive last minute purchases if demand surges
Receivables days is defined as
how long It takes credit customers to pay the business following the sale
In SFP Receivables days is a
Current asset
Receivables days =
Average trade receivables/Credit sales x365 to show days
Companies want low receivables days because
it is good for cashflow - but must consider B2C relationships
High receivables days is good because
it could indicate competitive credit terms - helping to win customers, shows customers are not taking ‘prompt payment discounts’
High receivables days is bad because
the business will receive cash for goods slower, poor credit control - must chase customers, high risk of ‘bad debts’
Low receivables days is good because
the business will receive cash for goods quicker, indicates strong credit control - less costs to chase, lower risk of ‘bad debts’
Low receivables is bad because
could indicate uncompetitive credit terms - potentially losing customers, could receive less as customers take ‘prompt payment discounts’
Payables days is defined as
how long it takes the business to pay credit suppliers after purchase
In SFP Payables days is a
current liability
Payables days =
Average trade payables/Credit purchases x365 to show days
High payables days is good because
business will pay cash to supplier slower, accessing a cheap sources of finance compared to bank loan
High payables days is bad because
risk of upsetting supplier - especially if paying slower than credit terms, not taking advantage of ‘prompt payment discounts’
Low payables days is good because
creates strong relationship with supplier - continuity of supply, indicates taking advantage of ‘prompt payment discounts’
Low payables days is bad because
the business will pay the cash to the supplier quicker, won’t be accessing a cheap source of finance
Payables days could increase because
cash flow issues - delaying payments, negotiation to delay payment terms, strategic decision to delay payments
