Week 6 – Credit Policy Decisions FIN200 Cooper Office Supplies is considering a more liberal credit policy in order to increase sales. The following data is available for the company:
Uncollectable New Accounts…………….. 8%
Collections Cost (% of new sales)………... 6%
Production and Selling Costs…………….. 77%
Accounts Receivable Turnover…………… 5
Income taxes………………………………. 34%
Expected increase in sales…………........... $78,000
a. What is the level of accounts receivable needed to support this sales expansion?
b. What would be Cooper's incremental income after tax on investment?
Added Sales……………………………………….. $78,000
Accounts uncollectible (8% of new sales)………… ($6,240)
Annual Incremental revenue…………………….… $71,760
Collection costs (6% of new sales)………………... ($4,680)
Production & selling costs (77% of new sales)……. ($60,060)
Annual income before taxes………………………… $7,020
Taxes (34%)……………………………………….... ($2,387)
Incremental Income after taxes……………………… $4,633
c. Should Cooper liberalize credit if a 15% after tax return on investment is required? Yes. The return on incremental investment is 29.7%, which exceeds the required 15%.
d. Assume Cooper also needs to increase its level of inventory to support new sales and that inventory turnover is 4 times. What would be the total incremental investment in accounts receivable and inventory to support the expected increase in sales?
e. Given the income determined in part B and the investment determined in part D, should Cooper extend more liberal credit terms? Determine and show answer in percentage amounts.
File name: Cooper-Office-Supplies-W6.xls File type: application/vnd.ms-excel Price: $6
SOLUTION
PREVIEW
b.
What would be Cooper's incremental income after tax on investment?
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Particulars
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Amount
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Increase in sales
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78,000
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Less Accounts uncollectible (8% of 78,000 new sales)
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-6,240
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Annual incremental revenue
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71,760
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