Question

Which of the following would SHORTEN the firm's Operating Cycle all other elements remaining the same (unchanged)?

A Increasing the average inventory held during the period.

B Providing less favorable credit terms to key customers, and shortening the days sales in Accounts Receivable.

C Delaying payments to suppliers

D Investing in new plant and equipment

E None of the above would shorten the firm's operating cycle

Answer 1

Operating cycle = days inventory (DIO) + days sales outstanding (DSO)

Days inventory = (avg. inventory/cost of goods sold)* no of days

Days sales outstanding = (receivables/sales)* no of days

Lets see the effect of each statement on operating cycle:

A Increasing the average inventory held during the period. = DIO goes up; therefore operating cycle goes up.

B Providing less favorable credit terms to key customers, and shortening the days sales in Accounts Receivable = DSO goes down and therefore operating cycle goes down

C Delaying payments to suppliers = not in scope of operating cycle

D Investing in new plant and equipment= not in scope of operating cycle

E None of the above would shorten the firm's operating cycle - NA

So answer is option B