Anne Teak, the financial manager of a furniture manufacturer, is considering ope

Question

Anne Teak, the financial manager of a furniture manufacturer, is considering operating a lock-box system. She forecasts that 650 payments a day will be made to lock boxes with an average payment size of $2,000. The bank's charge for operating the lock boxes is $0.40 a check. The interest rate is 0.012% per day. a. If the lock box makes the cash available 2 days earlier, calculate the net daily advantage of the system. (Do not round intermediate calculations.) Daily interest saved b. Is it worthwhile to adopt the system? O Yes ONo c.What minimum reduction in the time to collect and process each check is needed to justify use of the lock-box system? (Do not round intermediate calculations. Round your answer to 2 decimal places.) Minimum reduction in time days

Explanation / Answer

a-1. If the lock box makes the cash available 2 days earlier, calculate the net daily advantage of the system.

Average payments each day = 650

Average value of each payment (payment size) = $2,000 per payment

Therefore Average total value of transaction per day = 650 *$2,000 = $1,300,000

Value of two days payments = $1,300,000 *2 = $2,600,000

Cost increased by lock box system daily = 650*$0.40 = $260

As the lock box reduces collection float by $2,600,000

Therefore daily interest saved = $2,600,000 *0.00012 = $312

a-2. Is it worthwhile to adopt the system?

Cost saved (Interest earned on $2,600,000) for 2 days = $2,600,000* {(1+0.00012) ^2 -1} = $624.04

Cost increased by lock box system for two day = 2* 650*$0.40 = $520

Net benefit from lock box system = savings – cost = $624.04 - $520 = $104.04

As the cost is less for the lock boxes than savings therefore it is worthwhile to adopt the system

Yes, it is worthwhile to adopt the system

b. What minimum reduction in the time to collect and process each check is needed to justify use of the lock-box system?

The minimum time will be when the savings are equal to cost.

650* 2000 * days * .012% = 260

Or Days = 260 / 650* 2000 * 0.012%

Or Day = 260 /156 = 1.67 days

This is the minimum reduction in time to justify lock box

Minimum reduction in time 1.67 days

                                                                                                                                                 

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