Case 8 in time to take advantage of the 2 percent discount they offer for payments within days." (Fresh &Fruity's suppliers operated on a 2/10, net 60 basis.) "That our net income and free up even more cash to take advantage of would increase even more iscounts!" She looked excited at the prospect "Sounds doubtfully great, but how do we get people to pay us earlier?" Tom inquired, "Easy," Alice continued. "Up to now we've been giving them incentives to y later. Remember our Buy Now, No Payments for Two Months' program? Well, a lot of our customers use it, and it's caused our accounts receivable balance to run way up. So what we have to do now is give them incentives to pay earlier. What I propose is to cancel the buy now/pay later plan and offer a 10 percent discount to everyone who pays with their order, instead "But won't that cause our revenues to drop?" Tom asked, again still doubtful. "Yes, but the drop will be offset by even more new customers who will come in to take advantage of the discount. I figure the net effect on sales will be just about zero, but our accounts receivable balance could be cut in half! Now here's a kicker that I just thought of: After we've reduced our accounts receivable balance as far as practical, I'd like to look into the possibility of reducing our them with a bank loanThe effective rate of interest that we pay by not taking our suppliers' discounts is, after all, pretty high. So what I'd like to do is take out a loan once a year of a sufficient size that would enable us to take all the discounts our suppliers offer. The interest that we'll pay on the loan is bound to be less than what we pay in discounts we'll see another gain in earnings on our income statement. In fact these two initiatives together might have a really significant impact!" "You've convinced me," Tom said, "Let's go back to the office and run some figures to see what happens!" Financial statements for Fresh&Fruity Foods, Inc., are presented in Figure 1 (income statement) and Figure 2 (balance sheet). Using the data in Figures 1 and 2, compute the company's average collection period (ACP) in days. Use a 360-day year when calculating sales per day Compute the cost, as a percent, that the company is paying for not taking the supplier's discounts. (The supplier's terms are 2/10, net 60; but note from the bottom of Figure 2 that Fresh&Fruity has been taking 67 days to pay its suppliers, making that the effective final due date for accounts payable.) Assume that Alice Plummer's first initiative to offer a 10 percent discount was implemented, and the company's average collection period dropped to 32 days. If net sales per day remained the same, 1. uired 2. 3. balance? How much cash was freed up by the reduction in accounts receivable? What is the new accounts payable balance if the money is used to pay off suppliers? r2017 MeGraw-Hill Education. All rights reserved. No reproduction or distribuation without the prior written consent of MeGraw-Hill Education. Case 8 4. Alice's second initiative calls for Fresh&Fruity to obtain a bank loan of a sufficient size to enable the company to take all suppliers discounts. What is the minimum size of this loan? (Hint: To take all suppliers' discounts, the average payment period must be 10 days, and net purchases will be purchases - (Purchases from Figure 1 x .02). Assume that all this happens, and formula for the new accounts payable balance, using: solve the following Accounts payable - Average payment period x Purchase per day* Based on net purchases/360. No w compare the accounts payable you just solved with the new accounts payable balance you found in question 3. The difference is the size of the loan that is required. 5. Assume that Fresh &Fruity does obtain an 8 percent loan for one ou solved in question 5, and it reduces its year in the amount y accounts payable balance accordingly. Now the company is taking 2 percent discounts on all purchases and paying 8 percent a year on the loan balance. What is the net gain from taking the discounts and paying the interest on a before-tax basis? On an aftertax basis? 6. Suppose the 8 percent loan that Fresh& Fruity obtained was a discount loan, and the bank further required a 20 percent compensating balance of the full loan amount. What is the effective rate of interest to Fresh & Fruity? How does this compare to your answer in question 2 for the cost of not taking a cash discount? Case 8 in time to take advantage of the 2 percent discount they offer for payments within days." (Fresh &Fruity's suppliers operated on a 2/10, net 60 basis.) "That our net income and free up even more cash to take advantage of would increase even more iscounts!" She looked excited at the prospect "Sounds doubtfully great, but how do we get people to pay us earlier?" Tom inquired, "Easy," Alice continued. "Up to now we've been giving them incentives to y later. Remember our Buy Now, No Payments for Two Months' program? Well, a lot of our customers use it, and it's caused our accounts receivable balance to run way up. So what we have to do now is give them incentives to pay earlier. What I propose is to cancel the buy now/pay later plan and offer a 10 percent discount to everyone who pays with their order, instead "But won't that cause our revenues to drop?" Tom asked, again still doubtful. "Yes, but the drop will be offset by even more new customers who will come in to take advantage of the discount. I figure the net effect on sales will be just about zero, but our accounts receivable balance could be cut in half! Now here's a kicker that I just thought of: After we've reduced our accounts receivable balance as far as practical, I'd like to look into the possibility of reducing our them with a bank loanThe effective rate of interest that we pay by not taking our suppliers' discounts is, after all, pretty high. So what I'd like to do is take out a loan once a year of a sufficient size that would enable us to take all the discounts our suppliers offer. The interest that we'll pay on the loan is bound to be less than what we pay in discounts we'll see another gain in earnings on our income statement. In fact these two initiatives together might have a really significant impact!" "You've convinced me," Tom said, "Let's go back to the office and run some figures to see what happens!" Financial statements for Fresh&Fruity Foods, Inc., are presented in Figure 1 (income statement) and Figure 2 (balance sheet). Using the data in Figures 1 and 2, compute the company's average collection period (ACP) in days. Use a 360-day year when calculating sales per day Compute the cost, as a percent, that the company is paying for not taking the supplier's discounts. (The supplier's terms are 2/10, net 60; but note from the bottom of Figure 2 that Fresh&Fruity has been taking 67 days to pay its suppliers, making that the effective final due date for accounts payable.) Assume that Alice Plummer's first initiative to offer a 10 percent discount was implemented, and the company's average collection period dropped to 32 days. If net sales per day remained the same, 1. uired 2. 3. balance? How much cash was freed up by the reduction in accounts receivable? What is the new accounts payable balance if the money is used to pay off suppliers? r2017 MeGraw-Hill Education. All rights reserved. No reproduction or distribuation without the prior written consent of MeGraw-Hill Education. Case 8 4. Alice's second initiative calls for Fresh&Fruity to obtain a bank loan of a sufficient size to enable the company to take all suppliers discounts. What is the minimum size of this loan? (Hint: To take all suppliers' discounts, the average payment period must be 10 days, and net purchases will be purchases - (Purchases from Figure 1 x .02). Assume that all this happens, and formula for the new accounts payable balance, using: solve the following Accounts payable - Average payment period x Purchase per day* Based on net purchases/360. No w compare the accounts payable you just solved with the new accounts payable balance you found in question 3. The difference is the size of the loan that is required. 5. Assume that Fresh &Fruity does obtain an 8 percent loan for one ou solved in question 5, and it reduces its year in the amount y accounts payable balance accordingly. Now the company is taking 2 percent discounts on all purchases and paying 8 percent a year on the loan balance. What is the net gain from taking the discounts and paying the interest on a before-tax basis? On an aftertax basis? 6. Suppose the 8 percent loan that Fresh& Fruity obtained was a discount loan, and the bank further required a 20 percent compensating balance of the full loan amount. What is the effective rate of interest to Fresh & Fruity? How does this compare to your answer in question 2 for the cost of not taking a cash discount