Accounts Receivables Paper 3

Answer (B) is correct. The normal operating cycle is the period from the acquisition of inventory to the collection of the account receivable. If trade credit is for a period longer than the normal operating cycle, the seller must be financing more than just the purchase of inventory.

Answer (B) is correct. A quantity discount is an attempt to increase sales by reducing the unit price on bulk purchases. It concerns only the price term of an agreement, not the credit term, and thus is unrelated to credit and collection policy.

Answer (D) is correct. The firm has daily sales of $45,000 consisting of 150 units at $300 each. For 30 days, sales total $1,350,000. Of these sales, 40%, or $540,000 ($1,350,000 × 40%), will be uncollected because customers do not take their discounts. The remaining $810,000 ($1,350,000 × 60%) will be paid within the discount period.

Answer (D) is correct. The average balance of receivables is $120,000 ($4,000 × 30 days). Whether customers pay by credit card or check, collection requires 30 days.

Answer (C) is correct. Projected credit sales for the year under the old credit policy were $32,400,000 ($40,500,000 × 80%). The projected average balance in receivables was therefore $2,700,000 [$32,400,000 × (30 days ÷ 360 days)]. Under the new policy, projected credit sales will be $38,880,000 ($32,400,000 × 1.2), resulting in a new average receivables balance of $4,320,000 [$38,880,000 × (40 days ÷ 360 days)]. Hence, the expected increase in the balance is $1,620,000 ($4,320,000 – $2,700,000 .

Answer (C) is correct. Projected credit sales for the year under the old credit policy were $35 million ($50,000,000 × 70%). The level of average receivables was calculated as follows: Receivables turnover = Days in year ÷ Average collection period = 360 days ÷ 75 days = 4.8 times per year Average receivables = Net credit sales ÷ Receivables turnover = $35,000,000 ÷ 4.8 times = $7,291,667 Under the new policy, total sales will be $47.5 million ($50,000,000 × 95%), and credit sales will be $28.5 million ($47,500,000 × 60%). The new level of average receivables is calculated as follows: Receivables turnover = Days in year ÷ Average collection period = 360 days ÷ 50 days = 7.2 times per year Average receivables = Net credit sales ÷ Receivables turnover = $28,500,000 ÷ 7.2 times = $3,958,333 The average receivables balance will therefore be reduced by $3,333,334 ($7,291,667 – $3,958,333 .

Answer (B) is correct. Projected credit sales for the year under the old credit policy were $37,500,000 ($50,000,000 × 75%), resulting in an average balance in receivables of $2,083,333 [$37,500,000 × (20 days ÷ 360 days)]. Under the new policy, credit sales will be $46,875,000 ($37,500,000 × 1.25), resulting in an average receivables balance of $3,906,250 [$46,875,000 × (30 days ÷ 360 days)]. Hence, the expected increase in the balance is $1,822,917 ($3,906,250 – $2,083,333 .

Answer (B) is correct. The average collection period, also called the days sales outstanding in receivables, is calculated as the number of days in the year over the receivables turnover ratio. Yonder’s can be thus calculated as follows: Average collection period = Days in year ÷ Accounts receivable turnover = 365 ÷ (Net credit sales ÷ Average net receivables) = 365 ÷ [(20,000 × $25,000) ÷ $30,000,000] = 365 ÷ ($500,000,000 ÷ $30,000,000) = 365 ÷ 16.667 = 21.9 days

Answer (B) is correct. The company’s manufacturing and selling costs exclusive of bad debts equal 70 of sales. Hence, the gross profit on the $100,000 increase in sales will be $30,000 ($100,000 × 30%). The increase in after-tax profit is calculated as follows: Increase in gross profit $30,000 Less: uncollectible accounts ($100,000 × 15%) (15,000 Less: collection costs ($100,000 × 5%) (5,000) Increase in pre-tax income $10,000 Less: income tax expense ($10,000 × 40%) (4,000) Increase in after-tax income $ 6,000

Answer (B) is correct. The company’s manufacturing and selling costs exclusive of bad debts equal 75 of sales. Hence, the gross profit on the $150,000 increase in sales will be $37,500 ($150,000 × 25%). The increase in after-tax profit is calculated as follows: Increase in gross profit $37,500 Less: uncollectible accounts ($150,000 × 16%) (24,000 Less: collection costs ($150,000 × 4%) (6,000) Increase in pre-tax income $ 7,500 Less: income tax expense ($7,500 × 38%) (2,850) Increase in after-tax income $ 4,650