Bailey Distributing Company sells small appliances to hardwarestores in the sout
ID: 2662541 • Letter: B
Question
Bailey Distributing Company sells small appliances to hardwarestores in the southern California area. Michael Bailey, thepresident of the company, is thinking about changing the creditpolicies offered by the firm to attract customers away fromcompetitors. The current policy calls for a 1/10, net 30, andthe new policy would call for a 3/10, net 50. Currently 40percent of Bailey customers are taking the discount, and it isanticipated that this number would go up to 50 percent with the newdiscount policy. It is further anticipated that annual saleswould increase from a level of $200,000 to $250,000 as a result ofthe change in the cash discount policy.
The increased sales would also affect the inventorylevel. The average inventory carried by Bailey is based on adetermination of an EOQ. Assume unit sales of small applianceswill increase from 20,000 to 25,000 units. The ordering costfor each order is $100 and the carrying cost per unit is $1 (thesevalues will not change with the discount). The averageinventory is based on EOQ/2. Each unit in inventory has anaverage cost of $6.50.
Cost of goods sold is equal to 65 percent of net sales; generaland administrative expenses are 10 percent of net sales; andinterest payments of 12 percent will be necessary only for theincrease in the accounts receivable and inventorybalances. Taxes will equal 25 percent of before-taxincome.
B. Determine EOQ before and after thechange in the cash discount policy. Translate this intoaverage inventory (in units and dollars) before and after thechange in the cash discount policy.
EOQ for 20,000 Units –2,000
Average Inventory = 1,000 Units,$2,000
EOQ for 25,000 Units –2,236
Average Inventory = 1,118 Units,$2,236
C. Complete the income statement.
Income Statement
Before Policy Change
After Policy Change
Net Sales (Sales-Cash Discounts)
198,000
$194,000
Cost of Good Sold
$128,700
$126,100
Gross Profit
$69,300
$67,900
General and Administrative Expense
$19,800
$19,400
Operating Profit
$49,500
$48,500
Interest on Increase inAccounts Receivable and Inventory (12%)
Income beforeTaxes
Taxes
Income afterTaxes
Income Statement
Before Policy Change
After Policy Change
Net Sales (Sales-Cash Discounts)
198,000
$194,000
Cost of Good Sold
$128,700
$126,100
Gross Profit
$69,300
$67,900
General and Administrative Expense
$19,800
$19,400
Operating Profit
$49,500
$48,500
Interest on Increase inAccounts Receivable and Inventory (12%)
Income beforeTaxes
Taxes
Income afterTaxes
Explanation / Answer
Before the change. = (200000-800)= 199200 = 79680/365 x10 =2183 + 119520/365 x 30 =9824
Account Receivable will be = 2183+9824 =12007
After the change. = (XXXXXX-XXXX)= 246250 = 123125/365 x10 =3373 + 123125/365 x 50=16866
Account Receivable will be = 3373+16866 =20239
Before change EOQ and average inventory =under root 2 x 20000 x 100/1 = 2000 units = EOQ
Average inventory = 2000/2 = 1000 x 6.5 =6500 $
After change EOQ and average inventory =under root 2 x 25000 x 100/1 = 2236 units = EOQ
Average inventory = 2236/2 = 1118 x 6.5 =7267 $
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