Xtreme Toys Case Study Essay Example

items. The 62-day receivables conversion period after inventory sales means that it takes two months before the company receives cash from customers. On the other hand, the 40-day payables deferral period between receiving goods from suppliers and paying them means that the cash conversion cycle is now 135 days. To solve these issues, the investigative team focused on improving accounts receivables, accounts payables, and inventory management. Management must treat accounts receivable as an investment just like any other current asset of the company.

Instead of using historical data to determine ideal levels, the focus should be on getting the most return for the investment. The current wait time of 62 days for customer payments is considered excessive. To address this issue, a possible solution is to motivate customers to pay sooner by offering cash incentives, such as a 2% discount for payment within 30 days. However, this discount rate would exceed the company's current financing cost of 8% when calculated on an annual basis.

After our analysis, we do not recommend that particular course of action. Nevertheless, if customer accounts are more than 30 days delinquent, an 8% penalty may be imposed on them. This 8% is a way for the company to pass on its financing expenses directly to those who are late in payment. Another option to avoid any delay is for the company to factor its receivables to a finance company.

Factoring can eliminate the risks associated with possible customer defaults and high administrative costs, while facilitating swift transfer of funds into company accounts. In addition to this, there is room to improve the company's policy of paying suppliers within 40 days. As the

company's purchasing power increases, more suppliers will be willing to offer goods that could potentially come with line of credit extensions beyond the 40 day period. Typically, trade credit runs from 30 to 60 days and companies will frequently prolong payment periods to gain access to more short-term financing, as long as this is done responsibly.

As a result, the team suggests extending all lines of credit by 20 days. Additionally, inventory management, particularly production levels, is the third area to consider. Working with the manufacturing department, a review should determine whether a seasonal production schedule should be implemented instead of level production. Although level production maximizes efficiency in workforce and machinery use, it may lead to unnecessary inventory buildup in a seasonal business. Nonetheless, further research is needed to ensure transitioning to seasonal production does not result in unused capacity during slack periods and increased labor costs due to overtime wages.

The team suggests further analysis of the economic ordering quantity (ECQ) to keep up with the company's sales growth. Their goal was to reduce the cash conversion cycle by a minimum of 20 days, but after a detailed review, they consider it highly modest. The team recommends two strategies for achieving this goal: stretching accounts payable from 40 to 50 days and providing incentives for customers to pay early, which together would achieve half the target reduction. The team also recommends addressing any supplier concerns to maintain good relations with key suppliers.

A primary goal is to decrease the amount of time it takes to receive payments to a point that is lower than the time it takes to pay invoices. Moreover, the team

plans to address production methods in order to decrease the average inventory holding period of 113 days, which is an area of concern. The project team has determined that if the recommended modifications are implemented and a 20-day improvement is achieved, the company will save $29,778 annually in financing fees. Additionally, this reduction in cash conversion cycle time will release almost $400,000 in current lines of credit that can potentially be utilized to enhance production or increase sales.