Cannon Company has enjoyed a rapid increase in sales in recent years,following a decision to sell on credit.However,the firm has noticed a recent increase in its collection period.Last year,total sales were $1 million,and $250,000 of these sales were on credit.During the year,the accounts receivable account averaged $41,664.It is expected that sales will increase in the forthcoming year by 50 percent,and,while credit sales should continue to be the same proportion of total sales,it is expected that the days sales outstanding will also increase by 50 percent.If the resulting increase in accounts receivable must be financed by external funds,how much external funding will Cannon need?
A) $41,664
B) $52,086
C) $47,359
D) $106,471
E) $93,750

Question

Quizplus · Accepted Answer

The calculation involves finding the new average accounts receivable balance after the increase in sales and days sales outstanding (DSO), then determining the additional external funding needed. Last year's sales were $1 million, with 25% ($250,000) on credit. The DSO increase by 50% implies the average accounts receivable will also increase by 50% from $41,664 to $62,496 ($41,664 * 1.5). With sales increasing by 50%, new sales are $1.5 million, and credit sales remain 25% of total sales, equating to $375,000. The expected new average accounts receivable (considering the same proportion of credit sales to total sales and increased DSO) would be higher, but the calculation provided directly calculates the increase in the financing need based on the initial average accounts receivable increase, which is $62,496 - $41,664 = $20,832. However, the correct approach to find the needed external funding involves calculating the new DSO impact on the accounts receivable balance directly from the sales increase and then comparing it to the original average to find the difference. The mistake in the calculation stems from not applying the increase correctly to the new sales figure or misinterpreting the DSO's impact on the accounts receivable balance. The correct calculation should factor in the increased sales volume and the proportion of credit sales to find the new required accounts receivable balance and then determine the additional funding needed based on this new balance.

Cannon Company Has Enjoyed a Rapid Increase in Sales in Recent