Pueblo Corp. is considering relaxing its credit standards to encourage more sale

Question

Pueblo Corp. is considering relaxing its credit standards to encourage more sales. As a result, sales are expected to increase 15% from the current level of 300 units per year. The average collection period is expected to increase to 35 days from 25 days and bad debts are expected to double the current 1% level. The sale price per unit is $850, the variable cost per unit is $650 and the average cost per unit at the 300 unit level is $700. The firm's required return on investment is 20%. What is the cost of marginal investments in accounts receivable under the proposed plan? (Assume 365-day year)

Explanation / Answer

Particulars Present Proposed Sales In Units 300 345 Sale Price 850 850 Sales Total 255000 293250 Average Collection Period 35 25 Debtors (Sales/365*ACP)          24,452.05             20,085.62 Bad Debts 1% 2% Bad Debts                244.52                   401.71 Marginal cost of investment                   157.19

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