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pompa pompa
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6 years ago
A firm is considering relaxing credit standards which will result in an increase in annual sales from $3 million to $3.75 million, a decrease in the cost of annual sales from $2,225,000 to $2,000,000, an increase in additional profit contribution from sales of $10,000, and an increase in the average collection period of 15 days, from 20 to 35 days. The bad debt loss is expected to increase from 1 percent to 1.5 percent of sales. The firm's required return on investments is 15 percent. The net result of the firm relaxing its credit standards is ________. (Assume a 360-day year.)
A) $10,000
B) -$16,250
C) -$26,875
D) -$16,875
Textbook 
Principles of Managerial Finance

Principles of Managerial Finance


Edition: 14th
Authors:
Read 1221 times
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donnabandonnaban
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#1
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6 years ago Edited: 3 months ago, bio_man
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Cost/Benefit summary

Increased profit contribution: $10,000

Less: Increased costs:

Cost of increased A/R investment: (rounded) (See Note) ($10,625)

Cost of increased bad debt expense : ($ 3.75*0.015)-($3*.01) ($26,250)

Total cost increase ($36,875)

Net loss from credit period lengthening $–26,875

(Note)

Average investment in accounts receivable under current credit terms:

Total variable cost of annual sales/Turnover of accounts receivable

$2,225,000 / (365/20) = $2,225,000 /18.25 = $121,918

Average investment in accounts receivable with lengthened credit period:

$2,000,000 / (365/35) = $2,000,000 /10.43 = $192,751

Increased investment in accounts receivable: $192,751 – $121,918 = $70,833

Cost of increased A/R investment = .15 × $70,833 = $10,625

Therefore, the correct answer is C) -$26,875.

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#2
3 years ago
No working
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#3
3 years ago
Thank you
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#4
3 years ago Edited: 3 years ago, Berns Chaine
 Crying Face
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#5
2 years ago
Thank you
Anonymous
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#6
3 months ago
Help! The answer is missing an explanation...
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#7
Educator
3 months ago
Quote from: Anonymous (3 months ago)
Help! The answer is missing an explanation...

Solution given, take a look now Slight Smile
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