(d) The requirement is to identify the definition of the payables deferral period. Answer (d) is correct because the payables deferral period is the average length of time between the purchase of materials and the payment of cash for them. Answer (a) is incorrect because the operating cycle is the period of time elapsing between the acquisition of goods and services involved in the manufacturing process and the final collection of cash from sale of the products. Answer (b) is incorrect because the inventory cycle is the average time required to convert materials into finished goods and sell those goods. Answer (c) is incorrect because the accounts receivable period is the length of time required to collect accounts receivable.
(c) The requirement is to identify the impact of the length of the cash conversion cycle on a firm’s profitability. Answer (c) is correct because the longer the cash conversion cycle the greater the amount of time from when a firm pays its suppliers to the time it ultimately collects receivables. The greater the time frame the more likely the firm will have to borrow funds and incur interest expense which reduces profitability. Answers (a), (b), and (d) are incorrect because the incurrence of interest will reduce profitability.
(c) The requirement is to calculate the number of days’ sales outstanding. Answer (c) is correct. One-third of the customers take advantage of the 5% cash discount and pay on day ten. The remaining two-thirds of the customers pay on day 20. Average days’ sales outstanding is calculated as Days’ sales outstanding = (1/3) (10 days) + (2/3) (20 days) = 17 days Answer (a) is incorrect because this inappropriately weights the two different types of customers. Answer (b) is incorrect because this uses a simple average of days rather than a weighted-average. Answer (d) is incorrect because this solution uses the 20-day collection period for customers not taking the cash discount as the days’ sales outstanding, rather than the average days for payment by all customers.
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