Your current sales consist of 25 units per month at a price of $200 a unit. You are weighing the pros and cons of switching to a net 30 credit policy from your current cash only policy. If you decide to switch your credit policy you also plan to increase the sales price to $215 a unit. If you make the switch you do not expect your total monthly sales quantity to change but you do expect a 2 percent default rate. The monthly interest rate is 2.5 percent. What is the net present value of the proposed credit policy switch?

Question

Quizplus · Accepted Answer

The net present value (NPV) of the proposed credit policy switch is calculated by considering the increase in revenue from the price increase, the loss from defaults, and the cost of capital. The increase in revenue is $15 per unit ($215 - $200), leading to an additional $375 per month (25 units x $15). The expected loss from defaults is 2% of the new sales price, which is $107.50 (25 units x $215 x 0.02). The net gain per month is $267.50 ($375 - $107.50). The monthly interest rate is 2.5%, so the NPV is $267.50 / 0.025 = $10,700. However, since the question asks for the NPV of the switch, we consider the difference in cash flows, which is $5,700.

Your Current Sales Consist of 25 Units Per Month at a Price