Question 1

If the cash discount period is increased, the firm's investment in accounts receivable due to non-discount takers now paying earlier is expected to decrease.

Accepted Answer

The answer of If the cash discount period is increased,...

Question 2

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
A) $10,000.
B) -$16,250.
C) -$26,875.
D) -$16,875.

Accepted Answer

The increase in annual sales will result in an increase in profit contribution from sales of:

$750,000 x (1 − 0.30) = $525,000

The decrease in cost of annual sales and increase in profit contribution will result in an increase in profit before bad debt of:

= ($2,225,000 − $2,000,000) + $525,000 + $10,000
= $260,000

The increase in bad debt will result in an additional loss of:

($3,750,000 x 0.015) − ($3,000,000 x 0.01) = $22,500 − $30,000
= −$7,500

The increase in average collection period will result in an additional financing cost of:

($3,750,000 ÷ 360) x 0.15 x 15 = $18,750

Therefore, the net result of the firm relaxing its credit standards is:

$260,000 − $7,500 − $18,750 = $233,750
or
− $233,750 / $3,750,000 = − 6.23%

which is a decrease in the firm's net income. So the best choice is D.

Question 3

If the firm's credit period in decreased, the sales volume can be expected to increase, the investment in accounts receivable can be expected to increase, and the bad debt expenses can be expected to increase.

Accepted Answer

If the firm's credit period is decreased, it means customers have less time to pay their bills. This may result in a decrease in sales volume as customers may look for alternative suppliers who offer longer credit periods. Additionally, the investment in accounts receivable may decrease, as customers are paying sooner. However, bad debt expenses may decrease as well, as the firm is giving less time for customers to default on their payments.

Question 4

Table 14.5
Caren's Canoes is considering relaxing its credit standards to encourage more sales. As a result, sales are expected to increase 15 percent from 300 canoes per year to 345 canoes per year. The average collection period is expected to increase to 40 days from 30 days and bad debts are expected to double the current 1 percent level. The price per canoe is $850, the variable cost per canoe is $650 and the average cost per unit at the 300 unit level is $700. The firm's required return on investment is 20 percent.
-What is the net result of implementing the proposed plan? (See Table 14.5)
A) +$3,952
B) -$3,868
C) +$2,083
D) -$2,083

Accepted Answer

The net result of implementing the proposed plan is an increase in net income of $3,952. This is calculated as follows:Increase in sales: 345 canoes - 300 canoes = 45 canoesIncrease in sales revenue: 45 canoes x $850 per canoe = $38,250Increase in variable costs: 45 canoes x $650 per canoe = $29,250Increase in bad debts: 1% x $38,250 = $382.50Increase in average collection period: 40 days - 30 days = 10 daysIncrease in average accounts receivable: 10 days x $38,250 / 365 days = $1,045.52Increase in financing costs: 20% x $1,045.52 = $209.10Net income increase: $38,250 - $29,250 - $382.50 - $209.10 = $3,952

Question 5

A firm's credit terms cover all of the following EXCEPT
A) cash discount.
B) cash discount period.
C) credit standards.
D) credit period.

Accepted Answer

Credit terms typically include the cash discount, cash discount period, credit period, and any fees or interest charged for late payments. Credit standards refer to the criteria a firm uses to evaluate potential borrowers and determine whether or not to extend credit. While credit standards are related to credit terms, they are not a specific component of credit terms.

Question 6

Table 14.5
Caren's Canoes is considering relaxing its credit standards to encourage more sales. As a result, sales are expected to increase 15 percent from 300 canoes per year to 345 canoes per year. The average collection period is expected to increase to 40 days from 30 days and bad debts are expected to double the current 1 percent level. The price per canoe is $850, the variable cost per canoe is $650 and the average cost per unit at the 300 unit level is $700. The firm's required return on investment is 20 percent.
-What is the cost of marginal investments in accounts receivable under the proposed plan? (See Table 14.5)
A) $1,817
B) $1,867
C) $1,733
D) $1,617

Accepted Answer

The answer of Table 14.5
Caren's Canoes is considering relaxing its...

Question 7

An increase in accounts receivable turnover due to an increase in collection efforts will decrease the firm's marginal investment in accounts receivable.

Accepted Answer

When accounts receivable turnover increases, it means the company is collecting payments from customers more quickly. This leads to a decrease in the average amount of time that funds are tied up in accounts receivable, which in turn reduces the need for the firm to invest as much money in this asset. Therefore, an increase in accounts receivable turnover will decrease the firm's marginal investment in accounts receivable.

Question 8

A decrease in collection efforts will result in an increase in sales volume, an increase in the investment in accounts receivable, an increase in bad debt expenses, and a decrease in collection expenditures.

Accepted Answer

The answer of A decrease in collection efforts will result...

Question 9

Maggie's Gold Coins, Inc. is considering shortening its credit period from 30 days to 20 days and believes, as a result of this change, its average collection period will decrease from 36 days to 30 days. Bad debt expenses are also expected to decrease from 1.2 percent to 0.8 percent of sales. The firm is currently selling 300,000 units but believes as a result of the change, sales will decline to 275,000 units. On 300,000 units, sales revenue is $4,200,000, variable costs total $3,300,000, and fixed costs are $300,000. The firm has a required return on similar-risk investments of 15 percent. Evaluate this proposed change and make a recommendation to the firm.

Accepted Answer

The answer of Maggie's Gold Coins, Inc. is considering shortening...

Question 10

If the cash discount period is increased, the firm's investment in accounts receivable due to discount takers still getting cash discounts but paying later is expected to increase.

Accepted Answer

If the cash discount period is increased, buyers who take the discount will still do so, but they will have a longer time period to pay. This will result in an increase in the firm's investment in accounts receivable, as more customers will take advantage of the discount, but will pay later.

Question 11

Table 14.5
Caren's Canoes is considering relaxing its credit standards to encourage more sales. As a result, sales are expected to increase 15 percent from 300 canoes per year to 345 canoes per year. The average collection period is expected to increase to 40 days from 30 days and bad debts are expected to double the current 1 percent level. The price per canoe is $850, the variable cost per canoe is $650 and the average cost per unit at the 300 unit level is $700. The firm's required return on investment is 20 percent.
-What is the cost of marginal bad debts under the proposed plan? (See Table 14.5)
A) $383
B) $765
C) $3,315
D) $5,100

Accepted Answer

Using Table 14.5, we can calculate the cost of marginal bad debts as:

Cost of marginal bad debts = (Increase in bad debts as a percentage of sales) x (Increase in sales) x (Price per unit - Variable cost per unit)

Increase in bad debts as a percentage of sales = (2% - 1%) / 1% = 1%

Increase in sales = 345 - 300 = 45 canoes

Price per unit - Variable cost per unit = $850 - $650 = $200

Cost of marginal bad debts = 1% x 45 x $200 = $9,000

However, since the question asks for the cost of marginal bad debts, we need to subtract the bad debts that would have been incurred at the current sales level:

Bad debts at current sales level = 1% x 300 x $200 = $6,000

Therefore, the cost of marginal bad debts under the proposed plan is $9,000 - $6,000 = $3,000

This is option C.

Question 12

Nellie's Finery
Credit Scoring Policy   Jia's Jewelry uses the credit scoring technique to evaluate retail applications. The financial and credit characteristics considered and weights indicating their relative importance in the credit decision are shown above. The firm's credit standards are to accept all applicants with credit scores of 85 or more, to extend limited credit to applicants with scores ranging from 75 to 84, and to reject all applicants below 75. The firm is currently processing two applicants. The scores of each applicant on each of the financial and credit characteristics are summarized above. Would you recommend either of these applicants for credit extension?

Accepted Answer

The answer of Nellie's Finery
Credit Scoring Policy   Jia's...

Question 13

By increasing collection expenditures, the firm can decrease bad debt losses up to a point, beyond which bad debts cannot be economically reduced. These inescapable bad debts are attributed to the firm's credit policy.

Accepted Answer

Increasing collection expenditures can improve the firm's collection efforts and decrease bad debt losses, but there is a limit to how much bad debts can be reduced. Beyond that limit, bad debts are considered "inescapable" and are a result of the firm's credit policy, such as allowing high-risk customers to have credit.

Question 14

When a firm initiates or increases a cash discount, the net effect on the accounts receivable investment is difficult to determine because the nondiscount takers paying earlier will reduce the accounts receivable investment, while the new customer accounts will increase this investment.

Accepted Answer

When a firm initiates or increases a cash discount, it can be difficult to determine the net effect on the accounts receivable investment because the non-discount takers paying earlier will reduce the accounts receivable investment, while the new customer accounts will increase this investment.

Question 15

A firm is considering relaxing credit standards, which will result in annual sales increasing from $1.5 million to $1.75 million, the cost of annual sales increasing from $1,000,000 to $1,125,000, and the average collection period increasing from 40 to 55 days. The bad debt loss is expected to increase from 1 percent of sales to 1.5 percent of sales. The firm's required return on investments is 20 percent. The firm's cost of marginal investment in accounts receivable is
A) $5,556.
B) $9,943.
C) $12,153.
D) $152,778.

Accepted Answer

The cost of marginal investment in accounts receivable can be calculated using the following formula:

Cost of Marginal Investment = (Increase in Annual Sales x Required Return) - Increase in Cost of Sales - Increase in Bad Debt Loss

= ($1.75 million - $1.5 million) x 0.2 - ($1,125,000 - $1,000,000) - ($1.75 million x 0.015 - $1.5 million x 0.01)

= $50,000 - $125,000 - $7,500

= -$82,500

Since the result is negative, it means that the firm should not relax its credit standards as the cost of marginal investment would exceed the benefits. Therefore, none of the given choices are correct.

Question 16

Increased collection expenditures should reduce the investment in accounts receivable and bad debt expenses, increasing profits.

Accepted Answer

By increasing collection expenditures, a business can retrieve outstanding debts more quickly, reducing the amount of money tied up in accounts receivable and potentially reducing bad debt expenses. This ultimately leads to an increase in profits.

Question 17

Company ________ are the procedures followed to collect accounts receivable when they come due.
A) collection policies
B) credit scorings
C) credit policies
D) credit analyses

Accepted Answer

Collection policies are the procedures followed by a company to collect accounts receivable when they come due. Credit scoring refers to the evaluation of a borrower's creditworthiness, credit policies refer to the guidelines used by a company to determine whether to extend credit to a customer, and credit analysis refers to the assessment of the creditworthiness of a borrower or company.

Question 18

The net effect of changes in the cash discount period is quite difficult to analyze because they are directly attributable to the three forces affecting the firm's investment in accounts receivable.

Accepted Answer

Changes in the cash discount period can be impacted by factors such as competition, customer behavior, and cost of capital. It is difficult to analyze the net effect on the firm's investment in accounts receivable because these three forces are constantly interacting and influencing each other.

Question 19

2/15 net 45 translates as 2 percent of the balance is due in 15 days; the remaining balance is due in 45 days.

Accepted Answer

2/15 net 45 means a 2 percent discount is available if the invoice is paid within 15 days; otherwise, the full amount is due within 45 days.

Question 20

If the level of bad debt attributable to credit policy is relatively constant, increasing collection expenditures can be expected to reduce bad debts.

Accepted Answer

Increasing collection expenditures can lead to better and more effective debt recovery, which, in turn, can reduce bad debts.

Quiz 14: Working Capital and Current Assets Management