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Evaluate these two options and recommend which one Pura Cosmetics should use to improve the effectiveness of managing its cash flow more effectively - Edexcel - A-Level Business - Question 1 - 2022 - Paper 2
Question 1
Evaluate these two options and recommend which one Pura Cosmetics should use to improve the effectiveness of managing its cash flow more effectively. Option 1 - ove... show full transcript
Worked Solution & Example Answer:Evaluate these two options and recommend which one Pura Cosmetics should use to improve the effectiveness of managing its cash flow more effectively - Edexcel - A-Level Business - Question 1 - 2022 - Paper 2
Step 1
Option 1 - overdraft facility
Answer
Utilizing an overdraft facility could provide immediate liquidity for Pura Cosmetics as it seeks to ramp up production. This option allows the company to maintain operations and cover increased costs such as rent for a larger factory and purchasing raw materials. Given the cash flow forecast, the business is projected to face a negative cash flow of £3,800 in December, and an overdraft could help bridge this gap, ensuring continuity in trading and preventing potential damage to relationships with retailers.
Step 2
Option 2 - reducing the credit period to its customers
Answer
Reducing the credit period may be a more sustainable way to manage cash flow. Pura Cosmetics can encourage faster cash inflows by decreasing the credit terms offered to its retailers from one month to a shorter duration. This could potentially transform the forecasted negative cash flow into a more positive cash position by allowing the company to gather the £63,000 cash inflows in December rather than waiting until January.
Step 3
Recommendation
Answer
Based on the analysis, I recommend that Pura Cosmetics should implement the option of reducing the credit period to its customers. While the overdraft provides immediate funds, it also incurs interest costs that can affect profitability. Streamlining credit terms with retailers not only improves cash flow but also fosters better cash management practices in the long run. Given the company's niche in ethical beauty products, maintaining strong relationships with retailers by ensuring timely transactions will further enhance business sustainability.