The following is a partial balance sheet for Kay\'s Company dated December 31, 2
ID: 2554346 • Letter: T
Question
The following is a partial balance sheet for Kay's Company dated December 31, 2016: Current assets $20,000 Cash Accounts receivable Allowance for doubtful (3,000) $45,000 accounts Net realizable value Inventory 42,000 33,000 $95,000 Total current assets Current liabilities $65,000 During 2016, $4,000 of accounts receivable were written off and bad debts expense recognized on Kay's 2016 income statement was $8,000. However, the president of the company believes that $2,500 of these receivables were written off too soon. The reason for her position is that Kay has a debt covenant requiring it to maintain a current ratio of 1.5 The president believes that by reversing the write-off of $2,500 of accounts receivable, the current ets will be $97,500 and the current ratio will be 1.5. However, the chief financial officer states ass that a better approach is to pay off some accounts payable. If the compan payable, the current ratio would become the minimum 1.5 required by the debt y paid $5,000 of accoun covena ts Carefully & fully c ritique (including numbers) the two recommendations. Which do you believe should be chosen? (8 points)Explanation / Answer
reversing the write off of $2500 of accounts receivable would be a better approach than to pay $5000 of accounts payble. cash can be used for several purposes like aquisition/purchase of fixed assets rather than project finance. it can be used to pay of the partial or entire amount of long term debt to save the interest cost. another effective way it can be used to pay dividend to its shareholders. this will keep the investors happy and thats good for the comapny,
so the more effective way to maintain current ratio is to reverse the write off of accounts receivable than to pay to accounts payble.
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