Reference no: EM13214546

In the early 1990s, Cranston Dispensers, Inc. was quick to realize that concern for the environment would cause many consumer product manufacturers to move away from aerosol dispensers to mechanical alternatives that pose no threat to the ozone layer. In the following decades, most countries banned the most popular aerosol propellants, first chlorofluorocarbons and then hydrocholrofluorocarbons. As the leading manufacturer of specialized pump and spray containers for a variety of products in cosmetics, household cleaning supplies, and pharmaceutical industries, Cranston experienced a rapid increase in sales and profitability after it made this strategic move. At that time, the firm focused much of its attention on capturing market share and keeping up with demand.

For most of 20x4 and 20x5, however, Cranston's share price was falling while shares of other companies in the industry were rising. At the end of fiscal 20x5, the company hired Susan McNulty as the new treasurer, with the expectation that she would diagnose Cranston's problems and improve the company's financial performance relative to that of its competitors. She decided to begin the task with a thorough review of the company's working capital management practices.

While examining the company's financial statements, she noted that Cranston had a higher percentage of current assets on its balance sheet than other companies in the packaging industry. The high level of current assets caused the company to carry more short-term debt and to have higher interest expense than its competitors. It was also causing the company to lag behind its competitors on some key financial measures, such as return on assets and return on equity.

In an effort to improve Cranston's overall performance, Susan has decided to conduct a comprehensive review of working capital management policies, including those related to the cash conversion cycle, credit policy, and inventory management. Cranston's financial statements for the three most recent years follow.

 

Cranston Dispensers

Income Statement

($ in thousands)

 

Account	20x5	20x4	20x3
Sales	3,784	3,202	2,760
Cost of Goods Sold	2,568	2,172	1,856
Gross Profit	1,216	1,030	904
Selling & Administrative	550	478	406
Depreciation	247	230	200
Earnings Before Interest and Taxes	419	322	298
Interest Expense	20	25	14
Taxable Income	399	297	284
Taxes	120	89	85
Net Income	279	208	199

 

 

Cranston Dispensers

Balance Sheet

($ in thousands)

 

Account	20x5	20x4	20x3
Current Assets
Cash	341	276	236
Accounts Receivable	722	642	320
Inventory	595	512	388
Total Current Assets	1,658	1,430	944
Net Fixed Assets	1,822	1,691	1,572
Total Assets	3,480	3,121	2,516
Current Liabilities
Accounts Payable	332	288	204
Accrued Expenses	343	335	192
Short-term Notes	503	491	243
Total Current Liabilities	1,178	1,114	639
Long-term Debt	398	324	289
Other Long-term Liabilities	239	154	147
Total Liabilities	1,815	1,592	1,075
Owners' Equity
Common Equity	1,665	1,529	1,441
Total Liabilities & Equity	3,480	3,121	2,516

Required:

1. Determine Cranston's average production cycles for 20x4 and for20x5.

2. Determine Cranston's average collection cycles for 20x4 and for 20x5. Assume that all sales are credit sales.

3. Determine Cranstons average payment cycles for 20x4 and for 20x5.

4. Using your answers to questions 1 through 3, determine Cranston's cash conversion cycles for 20x4 and for 20x5.

5. Cranston now bills its customers with terms of net 45. Although most customers pay on time, some routinely stretch the payment period to sixty or even ninety days. What steps can Cranston take to encourage clients to pay on time? What is the potential risk of implementing penalties for late payment?

6. Suppose Cranston institutes a policy of granting a 1% discount for payment within fifteen days with the full amount due in 45 days. Half the customers take the discount, the other half take an average of sixty days to pay.
a. What is the length of Cranston's collection cycle under this new policy?
b. In dollars, how much would the policy have cost Cranston in 20x5?
c. If this policy had been in effect during 20x5, by how many days would Cranston have shortened the cash conversion cycle?

7. An image-based lockbox system could accelerate Cranston's cash collections by three days. Cranston can earn an annual rate of 6% on the cash freed by accelerated collections. Using sales for 20x5, determine the most that Cranston should pay per year for the lockbox system.

8. One of Cranston's principal raw materials is plastic pellets, which it purchases in lots of 100 pounds at $0.35 per pound. Annual consumption is 8,000,000 pounds. Within a broad range of order sizes, ordering and shipping costs are $120 per order. Carrying costs are $1.50 per year per 100 pounds. Compute the EOQ for plastic pellets. If Cranston used the EOQ model, how often would it order pellets?