Chapter 30 Working Capital Management 809
bre44380_ch30_787-812.indd 809 10/06/15 10:57 AM
- Credit policy Jim Khana, the credit manager of Velcro Saddles, is reappraising the com-
pany’s credit policy. Velcro sells on terms of net 30. Cost of goods sold is 85% of sales, and
fixed costs are a further 5% of sales. Velcro classifies customers on a scale of 1 to 4. During
the past five years, the collection experience was as follows:
ClassificationDefaults as
Percent of SalesAverage Collection Period in
Days for Nondefaulting Accounts1 0 45
2 2.0 42
3 10.0 40
4 20.0 80The average interest rate was 15%.
What conclusions (if any) can you draw about Velcro’s credit policy? What other factors
should be taken into account before changing this policy?- Credit policy Look again at the last problem. Suppose (a) that it costs $95 to classify each
new credit applicant and (b) that an almost equal proportion of new applicants falls into each
of the four categories. In what circumstances should Mr. Khana not bother to undertake a
credit check? - Credit terms Until recently, Augean Cleaning Products sold its products on terms of net
60, with an average collection period of 75 days. In an attempt to induce customers to pay
more promptly, it has changed its terms to 2/10, EOM, net 60. The initial effect of the changed
terms is as follows:
Calculate the effect of the changed terms. Assume
∙ Sales volume is unchanged.
∙ The interest rate is 12%.
∙ There are no defaults.
∙ Cost of goods sold is 80% of sales.- Credit terms Look at the previous problem. Assume that the change in credit terms results
in a 2% increase in sales. Recalculate the effect of the changed credit terms. - Cash management Knob, Inc., is a nationwide distributor of furniture hardware. The
company now uses a central billing system for credit sales of $180 million annually. First
National, Knob’s principal bank, offers to establish a new concentration banking system for
a flat fee of $100,000 per year. The bank estimates that mailing and collection time can be
reduced by three days. By how much will Knob’s cash balances be increased under the new
system? How much extra interest income will the new system generate if the extra funds are
used to reduce borrowing under Knob’s line of credit with First National? Assume that the
borrowing rate is 12%. Finally, should Knob accept First National’s offer if collection costs
under the old system are $40,000 per year? - Lockboxes Anne Teak, the financial manager of a furniture manufacturer, is considering
operating a lockbox system. She forecasts that 300 payments a day will be made to lockboxes,
Average Collection Periods (Days)
Percent of Sales with Cash Discount Cash Discount Net
60 30 a 80
a Some customers deduct the cash discount even though they pay after the specified date.