Leema is a manufacturer who deals in bakery products while Mala is a manufacturer who deals with industrial kitchen ovens and furnaces. What is an operating cycle? Based on the length of the operating cycle state who would require more working capital and Why? State the reasons.
Leema is a manufacturer who deals in bakery products while Mala is a manufacturer who deals with industrial kitchen ovens and furnaces. What is an operating cycle? Based on the length of the operating cycle state who would require more working capital and Why? State the reasons.
Operating cycle determines the length of time the operations of a business will take to acquire and sell inventories and collect cash from the sale.
It is calculated as :
Operating cycle (in days) = (Average inventory processing time) + (Average receivable collection period) — (Average payable payment period).
Based on this meaning of operating cycle, Leema who is the manufacturer of capital goods like industrial kitchen ovens and furnaces would require more working capital than Leema who makes bakery products due to the following reasons :
(i) Both Leema and Mala will require more working capital as they are into food processing and manufacturing of capital goods, respectively. However, Mala will require working capital relatively more than Leema as working capital depends upon the operating cycle which determines how quickly inventories can be converted into cash and Mala's capital goods conversion to cash will take more time than Leema's bakery goods conversion to cash.
(ii) Secondly, scale of operations for Mala's industrial ovens and furnaces will be bigger than Leema's bakery products.
(iii) Thirdly, production cycle of converting raw material to finished products is more for Mala than for Leema.
(iv) Fourthly, demand for bakery products can be more continuous than the demand for industrial ovens and furnaces which are purchased at a time thus making the requirement of working capital more for Mala than for Leema.
Operating cycle determines the length of time the operations of a business will take to acquire and sell inventories and collect cash from the sale.
It is calculated as :
Operating cycle (in days) = (Average inventory processing time) + (Average receivable collection period) — (Average payable payment period).
Based on this meaning of operating cycle, Leema who is the manufacturer of capital goods like industrial kitchen ovens and furnaces would require more working capital than Leema who makes bakery products due to the following reasons :
(i) Both Leema and Mala will require more working capital as they are into food processing and manufacturing of capital goods, respectively. However, Mala will require working capital relatively more than Leema as working capital depends upon the operating cycle which determines how quickly inventories can be converted into cash and Mala's capital goods conversion to cash will take more time than Leema's bakery goods conversion to cash.
(ii) Secondly, scale of operations for Mala's industrial ovens and furnaces will be bigger than Leema's bakery products.
(iii) Thirdly, production cycle of converting raw material to finished products is more for Mala than for Leema.
(iv) Fourthly, demand for bakery products can be more continuous than the demand for industrial ovens and furnaces which are purchased at a time thus making the requirement of working capital more for Mala than for Leema.
