Question

The new owners of Bluegrass Natural Foods, Inc., have hired you to help them diagnose and cure problems that the company has had in maintaining adequate liquidity. As a first step, you perform a liquidity analysis. You then do an analysis of the company’s short-term activity ratios. 3

Your calculations and appropriate industry norms are listed.
Current ratio bluegrass 4.5 industry norms 4.0
Quick ratio bluegrass 2 industry norms 3.1
Inventory turnover bluegrass 6 industry norms 10.4
Average collection period bluegrass 73 days industry norms 52 days
Average payment period bluegrass 31 days industry norms 40 days

a. What recommendations relative to the amount and the handling of inventory could you make
to the new owners?
b. What recommendations relative to the amount and the handling of accounts receivable could
you make to the new owners?
c. What recommendations relative to the amount and the handling of accounts payable could you
make to the new owners?

Answer 1

Bluegrass Natural Foods, Inc. is advised to improve its inventory turnover, which is lower than the industry norm, enhance its accounts receivable practices to reduce the average collection period, and align its accounts payable terms with industry norms to optimize liquidity.

Step-by-step explanation:

Liquidity and Short-Term Activity Analysis Recommendations

To address the liquidity and short-term activity analysis for Bluegrass Natural Foods, Inc., we can make several recommendations based on the provided ratios and industry norms.

a. Inventory Recommendations

With an inventory turnover of 6, compared to the industry norm of 10.4, Bluegrass Natural Foods is not turning over its inventory as efficiently as its competitors. This can result in higher holding costs and potential obsolescence. The company should consider strategies to improve inventory management, such as tighter inventory controls, better demand forecasting, and possibly reducing overall inventory levels to better match the industry norm.

b. Accounts Receivable Recommendations

The company's average collection period is 73 days, while the industry norm is 52 days. This suggests that Bluegrass is taking longer to collect payments from customers, which could impact cash flow. Recommendations include reviewing credit policies, offering early payment discounts to customers, and more aggressively following up on overdue accounts to reduce the collection period closer to the industry average.

c. Accounts Payable Recommendations

Bluegrass has an average payment period of 31 days, shorter than the industry norm of 40 days. Although paying suppliers quickly can foster good relationships, it may be advisable to negotiate longer payment terms where possible to better align with industry standards and improve cash flow. The company should ensure it is taking full advantage of credit terms provided by suppliers.