Easy2 marksMultiple Choice

Working Capital ManagementWorking capital managementOvertrading

This question is part of a case study — click to read the full scenario(Case 16)

Section B - Case 1: VerdiGrow

Scenario: VerdiGrow is an agricultural technology firm facing cash flow issues due to seasonal demand. The company currently has the following working capital metrics:

Receivables days: 65 days
Payables days: 40 days
Inventory days: 55 days

VerdiGrow's main supplier is offering an early settlement discount of 2% if invoices are paid within 10 days, rather than the current 60 days taken by VerdiGrow. Assume a 365-day year.

Question:
What is VerdiGrow's current cash operating cycle?

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ACCA · Question 19 · Working Capital Management

Section B - Case 1: VerdiGrow

Scenario: VerdiGrow is an agricultural technology firm facing cash flow issues due to seasonal demand. The company currently has the following working capital metrics:

Receivables days: 65 days

Payables days: 40 days

Inventory days: 55 days

Due to a sudden boom in the agri-tech sector, VerdiGrow's sales have doubled in the last six months. However, their cash balance has severely depleted, and they are struggling to pay suppliers on time.

Question:
Which financial phenomenon is VerdiGrow most likely experiencing?

Answer options:

Overcapitalization

Overtrading

Capital rationing

Negative yield curve

How to approach this question

Identify the term for a business that is growing sales too fast for its working capital to support.

Full Answer

B.Overtrading✓ Correct

Overtrading (also known as undercapitalization) happens when a company tries to support too large a volume of trade with too little capital. Rapid sales growth requires more inventory and creates more receivables. If this isn't funded by long-term capital, the firm drains its cash and stretches its payables, leading to a liquidity crisis despite being profitable.

Common mistakes

Confusing overtrading with overcapitalization (which is the exact opposite).

Question 18 All questions Question 20

Practice the full ACCA FM — Financial Management Practice Exam 1

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