The directors of L Ltd appointed a new sales manager towards the end of 2002. This manager devised a plan to increase sales and profit by means of a reduction in selling price and extended credit terms to customers. This involved considerable investment in new machinery early in 2003 in order to meet the demand which the change in sales policy had created.

The financial statements for the years ended 31 December 2002 and 2003 are shown below. The sales manager has argued that the new policy has been a resounding success because sales and, more importantly, profits have increased dramatically.

(a) You are required to explain whether you believe that the performance for the year ended 31 December 2003 and the financial position at that date have improved as a result of the new policies adopted by the company. You should support your answer with appropriate ratios.

(b) All of LLtd’s sales are on credit. The finance director has asked you to calculate the immediate financial impact of reducing the credit period offered to customers. Calculate the amount of cash which would be released if the company could impose a collection period of 45 days.

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Profit and loss accounts 2003 2002 000 Sales Cost of sales Gross profit Selling expenses Bad debts Depreciation Interest Net profit Balance sheets 2,800 (1,680) 000 900 1,120 (360) 540 (270) (150) (140) (18) (208) (58) (192) (12) 310 302 2003 2002 000 000 000 000 Fixed assets Factory Machinery Current assets Stock Debtors 441 450 1,791 490 2,232 940 238 583 Bank 821 Current liabilities Creditors (175) (36) Bank (11) (186) 8 Current assets less Current liabilities 635 Borrowings 2,867 (1,600) 89 1,029 (100) 1,267 929 Share capital 328 300 Profit and loss 939 629 1,267 929