Principles of Corporate Finance_ 12th Edition

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Chapter 30 Working Capital Management 811


bre44380_ch30_787-812.indd 811 10/06/15 10:57 AM


CHALLENGE



  1. Credit policy Reliant Umbrellas has been approached by Plumpton Variety Stores of
    Nevada. Plumpton has expressed interest in an initial purchase of 5,000 umbrellas at $10 each
    on Reliant’s standard terms of 2/30, net 60. Plumpton estimates that if the umbrellas prove
    popular with customers, its purchases could be in the region of 30,000 umbrellas a year. After
    deductions for variable costs, this account would add $47,000 per year to Reliant’s profits.
    Reliant has been anxious for some time to break into the lucrative Nevada market, but
    its credit manager has some doubts about Plumpton. In the past five years, Plumpton had
    embarked on an aggressive program of store openings. In 2013, however, it went into reverse.
    The recession, combined with aggressive price competition, caused a cash shortage. Plump-
    ton laid off employees, closed one store, and deferred store openings. The company’s Dun
    and Bradstreet rating is only fair, and a check with Plumpton’s other suppliers reveals that,
    although Plumpton traditionally took cash discounts, it has recently been paying 30 days
    slow. A check through Reliant’s bank indicates that Plumpton has unused credit lines of
    $350,000 but has entered into discussions with the banks for a renewal of a $1,500,000 term
    loan due at the end of the year. Table 30.5 summarizes Plumpton’s latest financial statements.
    As credit manager of Reliant, how do you feel about extending credit to Plumpton?

  2. Credit policy Galenic, Inc., is a wholesaler for a range of pharmaceutical products. Before
    deducting any losses from bad debts, Galenic operates on a profit margin of 5%. For a long
    time the firm has employed a numerical credit scoring system based on a small number of
    key ratios. This has resulted in a bad debt ratio of 1%.
    Galenic has recently commissioned a detailed statistical study of the payment record of
    its customers over the past eight years and, after considerable experimentation, has identified
    five variables that could form the basis of a new credit scoring system. On the evidence of the
    past eight years, Galenic calculates that for every 10,000 accounts it would have experienced
    the following default rates:


Number of Accounts
Credit Score under Proposed System Defaulting Paying Total
Greater than 80 60 9,100 9,160
Less than 80 40 800 840
Total 100 9,900 10,000

❱ TABLE 30.5^
Plumpton Variety
Stores: Summary
financial statements
(figures in millions).

2016 2015 2016 2015
Cash $1.0 $1.2 Payables $2.3 $2.5
Receivables 1.5 1.6 Short-term loans 3.9 1.9
Inventory 10.9 11.6 Long-term debt 1.8 2.6
Fixed assets 5.1 4.3 Equity 10.5 11.7
Total assets $18.5 $18.7 Total liabilities $18.5 $18.7
2016 2015
Sales $55.0 $59.0
Cost of goods sold 32.6 35.9
Selling, general, and administrative expenses 20.8 20.2
Interest .5 .3
Ta x .5 1.3
Net income $.6 $1.3
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