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Crag Co has sales of $200m per year and the gross profit margin is 40%. Finished goods inventory days vary
throughout the year within the following range:
Maximum Minimum
Inventory (days) 120 90
All purchases and sales are made on a cash basis and no inventory of raw materials or work in progress is carried.
Crag Co intends to finance permanent current assets with equity and fluctuating current assets with its overdraft.
In relation to finished goods inventory and assuming a 360-day year, how much finance will be needed from the
overdraft?
Here they have calculated: 200*30/360*0.6
I did not understand why the differene of max and min inventory taken instead of average. Pls explain
Thanks in advance!!As I explain in my lectures on the financing of working capital, the ‘permanent’ working capital is that needed throughout the year – this is the minimum inventory.
The fluctuating working capital is that that fluctuates throughout the year, and so the extra 30 days inventory will be financed from the overdraft (which will fluctuate from day to day as the finance is needed).
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