CSFT - Lesson 1

What is the working capital cycle?

• The time it takes for a business to convert its inventory into cash

• The time it takes for a business to pay off its long-term debts

• The time it takes for a business to produce goods

• The time it takes for a business to hire new employees

Answer explanation

The working capital cycle is the time it takes for a business to convert its inventory into cash, making it the correct choice.

Which of the following is NOT a component of the working capital cycle?

• Inventory

• Receivables

• Payables

• Long-term Loans

Answer explanation

Long-term Loans is NOT a component of the working capital cycle as it falls under long-term financing, unlike Inventory, Receivables, and Payables which are part of the cycle.

How can a business improve its working capital cycle?

• By increasing the time it takes to collect receivables

• By decreasing the time it takes to sell inventory

• By speeding up payments to suppliers

• By increasing the amount of inventory held

Answer explanation

By decreasing the time it takes to sell inventory

A business has an average inventory holding period of 40 days. It receives payment from it's customers in 30 days and pay it's suppliers in 60 days.

What is the cash operating cycle in days for the business?

• 10 days

• 50 days

• 70 days

• 130 days

Answer explanation

The cash operating cycle is calculated as the sum of the average inventory holding period and the average collection period minus the average payment period. In this case, it is 40 days (inventory) + 30 days (collection) - 60 days (payment) = 10 days.

ABC Ltd, a growing manufacturing company, has recently seen a rapid increase in its sales volume. However, despite the increase in revenue, the company is experiencing cash flow difficulties and is struggling to meet its short-term obligations. Upon reviewing ABC Ltd's financial statements, you notice that their inventory and accounts receivable have increased significantly, while their cash reserves have depleted.

Which of the following best explains the concept of overtrading as it might apply to ABC Ltd?

• Overtrading occurs when a company underutilises its long-term assets, leading to inefficiencies

• Overtrading occurs when a company expands its sales volume without having sufficient working capital, leading to cash flow problems

• Overtrading occurs when a company maintains excessive cash reserves, resulting in low returns on assets

• Overtrading occurs when a company has a high level of debt compared to its equity

Answer explanation

Overtrading occurs when a company expands its sales volume without having sufficient working capital, leading to cash flow problems

XYZ Ltd, another company in the same industry, has a large amount of capital invested in long-term assets and is maintaining a significant cash balance. Despite this, the company's return on capital employed (ROCE) and return on net assets (RONA) are relatively low compared to industry averages.

Which of the following best defines overcapitalisation and its potential impact on XYZ Ltd’s financial performance?

• Overcapitalisation occurs when a company has more capital than it needs, resulting in underutilised assets and inefficient operations

• Overcapitalisation occurs when a company underutilises its inventory, leading to stockouts

• Overcapitalisation occurs when a company has a high level of debt compared to equity, causing high interest expenses

• Overcapitalisation occurs when a company expands its sales volume rapidly without sufficient working capital

Answer explanation

Overcapitalisation occurs when a company has more capital than it needs, resulting in underutilised assets and inefficient operations

Given the following data from ABC Ltd's latest financial statements, calculate the current ratio

• Inventory: £500,000

• Accounts Receivable: £750,000

• Cash: £50,000

• Current Liabilities: £800,000

• Sales: £3,000,000

• 1.625 : 1

• 1.0 : 1

• 0.433 : 1

• 0.7 : 1

Answer explanation

Current Ratio = (Inventory + Accounts Receivable + Cash) / Current Liabilities = (£500,000 + £750,000 + £50,000) / £800,000 = £1,300,000 / £800,000 = 1.625 : 1

Given the following data from ABC Ltd's latest financial statements, calculate the quick ratio

• Inventory: £500,000

• Accounts Receivable: £750,000

• Cash: £50,000

• Current Liabilities: £800,000

• Sales: £3,000,000

• 1.0 : 1

• 1.625 : 1

• 2.0 : 1

• 0.625 : 1

Answer explanation

Quick ratio is calculated as (Cash + Accounts Receivable) / Current Liabilities. In this case, (50,000 + 750,000) / 800,000 = 1.0 : 1, indicating the company's ability to cover its short-term liabilities.

Organise these options into the right categories

Groups:

(a) Capital payment

,

(b) Regular revenue payment

,

(c) Payment for drawings

,

(d) Exceptional payments

• Payment to reward shareholders in a Ltd company

• Money taken out of the business for personal use (sole trader)

• Purchases of goods for resale

• Payment for the aquisition of a new business

• Payment for labour costs

• Payment to acquire new machinery

Using the information provided, calculate the Return on Capital Employed (ROCE)

• 16.32%

• 18.42%

• 26.5%

• 46.38%

Answer explanation

Return on Capital Employed (ROCE)

Profit from operations/Capital employed

Capital employed is total equity + non-current liabilities

£185,500/£700,000 x 100 = 26.5%