AR Ltd. has given following data for the year ended 31st March, 2026: Receivables are collected on an average after 60 days.Inventories are held for…

CA Intermediate · Financial Management and Strategic Management · PYQS · May 2026
AR Ltd. has given following data for the year ended 31st March, 2026: Receivables are collected on an average after 60 days.Inventories are held for average period of 90 days before being sold.The company usually settles its payables with suppliers after 30 days.The total sales of the company amounts to 200 lakhs, which is earned evenly throughout the year. All sales are credit sales. Net profit margin is 10%. The company has not incurred any non-operating expenses during the year.Tax rate is 30%.Assume 360 days in a year.Opportunity cost of investment is 12%. On the basis of the above data: (i) Calculate the cash cycle and the minimum cash balance to be maintained to meet its obligations. (ii) The company is planning to propose a scheme, whereby it will offer a cash discount of 2% to debtors to reduce the debtors' collection period by 30 days. It is expected that 60% of the debtors will avail the scheme. (A) What will be reduction in the minimum cash to be maintained to meet obligation after the proposed scheme is adopted? (B) What will be net saving due to such scheme? (C) Should the company adopt the scheme?

Suggested Answer and Working Notes:

(a) (i) Cash cycle = 60 days + 90 days – 30 days = 120 days (4 months) Cash turnover = 12 months (360 days)/4months (120 days) = 3. Total Cash Outlay = Sales - Net Profit = 200 Lakhs-20 Lakhs = 180 Lakhs Minimum operating cash = Total operating annual outlay/cash turnover = 180 lakhs/3 = 60 lakhs. (ii) (A) Reduction in Minimum Cash Balance First, we calculate the new average collection period and the new cash cycle. New Average Collection Period: 30 days New Cash Cycle: 30 + 90-30 = 90 days New Cash Turnover: 360/90 = 4 times New Minimum Cash Balance: 180/4 = 45 Lakhs Reduction in Cash Balance: 60 Lakhs-45 Lakhs = 15 Lakhs (B) Net Saving Due to Scheme Opportunity Cost Saving = 12% of reduction in cash balance (15 Lakhs) x (1-0.30) = 1.26 Lakhs Cost of Cash Discount = 2% of 60 % of Total Sales x (1-0.30) = 0.02 × 0.60 × 200 Lakhs = 1.68 Lakhs Net Saving = 1.26 Lakhs-1.68 Lakhs = ₹ (0.42 Lakhs) (C) Recommendation No, the company should not adopt the scheme. Solution for part (ii) can be done in following alternative way: If we assume 60% of debtors will pay 30 days early (Collection period = 30 days).The remaining 40% of debtors will not avail the scheme and will continue to pay after the normal 60 days. Therefore, the New Average Collection Period: = (60%×30 days) + (40% × 60 days) = 18 days+24 days = 42 days Cash Cycle & Cash Balance: New Cash Cycle = 90 (Inventory) + 42 (New Debtors) - 30 (Payables) = 102 daysNew Cash Turnover = 360 / 102 = 3.529 timesNew Minimum Cash Balance = 180 Lakhs / 3.529 = 51 LakhsReduction in Cash Balance = 60 Lakhs - 51 Lakhs = 9 Lakhs (B) Net Savings: Opportunity Cost Saving:9 Lakhs × 12% × (1 - 0.30) = 0.756 LakhsCost of Cash Discount: 2% × 60% × 200 Lakhs × (1 - 0.30) = 1.68 LakhsNet Saving: 0.756 Lakhs -1.68 Lakhs = (₹ 0.924 Lakhs) or (Net Loss of 92,400) (C) No, the company should not adopt the scheme, because it results in a net financial loss of 0.924 Lakhs.

Topics: Part-A: Financial Management

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