A company is planning to change its credit policy. The details are as follows:
Current selling price ...........................$5.00 per unit
Average cost .......................................$4.50 per unit
Current annual sales ...........................360,000 units
Current terms of sale........................... net 30 days
The company wants to extend its credit period to net 60 days. Allowing for the reaction of competitors, it is anticipated that this move would produce the following results:
1. Sales are expected to increase to 420,000 units.
2. Bad debt losses are expected to increase by $6,000 per year.
The marginal cost per unit for the increased number of units to be produced would be $3.00. The company’s after-tax rate is 40%, and its required minimum rate of return on such investments is 15% after tax.
Would you recommend that the company adopt this new credit policy?