I need full professional answers for short-term financial management course, in attachment.

FIN 644 Exam 1 Name___________ 1. Consider the following balance sheet and income statement data for Landmark International, figure out the cash profit of the company: Balance Sheet Cash Accounts receivable Inventory Fixed assets 12/31/03 $200 $800 $250 $1,000 Balance Sheet 12/31/04 $550 $700 $150 $1,000 (Accumulated depreciation) ($400) Total Assets $1,850 ($600) $1,800 Accounts payable Operating accruals Debt Common stock Retained earnings $250 $150 $395 $400 $605 $1,800 $200 $300 $750 $400 $200 $1,850 Income Statement for the year ended 12/31/04 Sales $4,500 COGS 2,200 Gross Profit $2,300 Operating expenses 1,300 Depreciation 200 Operating profit $800 Interest 75 Taxes 320 Net Profit $405 Dividends 0 Addition to retained earnings $405 2. If a firm has purchases of $50,000, a starting inventory of $35,000 and the cost of goods sold is $45000, what is the dollar amount of its ending inventory? The following financial data are to be used for questions 3-7: 2000 2001 Cash & equivalents $25 $75 Accounts receivable Inventory Gross Fixed assets (Accumulated Depr.) Total Assets $450 $400 $1,000 ($200) $1,675 $700 $500 $1,000 ($250) $2,025 Accounts payable Notes payable Operating accruals Current maturities Long-term debt Shareholders' equity Total Liabilities & Equity $100 $50 $60 $50 $400 $1,015 $1,675 $200 $275 $55 $50 $382 $1,063 $2,025 2000 $1,500 $750 $700 $100 2001 $2,250 $1,125 $750 $50 Revenues COGS Operating expenses Depreciation Interest Taxes Net Income Dividends $40 $(36) $(54) $45 $45 $112 $168 $120 3. What is the 2000 quick ratio? 4. What is the 2000 working capital requirement to sales ratio? 5. What is the 2001 cash conversion efficiency? 6. How long is the 2000 cash conversion period? 7. What is the 2001 sustainable growth rate? 8. Torque Manufacturing forecasts that its production will require 500,000 tons of bauxite over its planning period. Demand for Torque's products is stable over time. Ordering costs amount to an average of $20.00 per order. Holding costs are estimated at $1.25per ton of bauxite. What is the EOQ for Torque? The following information is to be used for questions 9-12: Lott Manufacturing Inc. has been ordering parts for its production process in lots of 10,000 units. Each order cots the firm $50 to place, and holding costs per unit average $3. Lott uses 200,000 units every 250 days. 9. EOQ for Lott is? 10. Given the EOQ you calculated for Lott, how many orders should be placed and what is the average inventory balance? 11. If it takes 2 days to receive an order from suppliers, at what inventory level should Lott place another order? 12. If Lott was recently been approached by its supplier with a new quantity discount program, and Lott determines that the optimal order quantity is 4,000 units, and at this level of order inventory, the company will pay $4.98 per unit. Determine the total inventory costs for Lott considering the quantity discount. 13. A company purchased inventory worth of $2280 in March. At the end of March it had inventory balance worth $456. Calculate March balance fraction. 14. Credit analyst John Adams is considering a $1,000 order from a new customer. The cost of filling the order is $950. John estimates collection costs are $20. The customer will pay in 60 days. If the appropriate cost of capital is 18%, what is the NPV of extending credit to the new customer? 15. A credit analyst has received a $10,000 order from a new customer. The cost of filling the order (i.e., COGS) is $8,000 and collection costs are $200. The credit analyst notes that the COGS will be paid immediately. Further, it is assumed that the customer will repay the trade credit obligation in 60 days. It is also assumed that the collection costs will be incurred in 60 days. If the appropriate discount rate is 8%, what is the NPV of extending credit to the new customer? 16. A credit analyst has receiveda $20,000 order from a new customer. The cost of filling the order (i.e., COGS) is $19,100 and collection costs are $500. The credit analyst notes that the COGS will be paid immediately. Further, it is assumed that the customer will repay the trade credit obligation in 90 days. It is also assumed that the collection costs will be incurred in 90 days. If the appropriate discount rate is 10%, what is the NPV of extending credit to the new customer? 17. East Stores has derived the following consumer credit scoring model: Y=0.2*Employment + 0.4*Homeowner + 0.3*Cards Employment=1 if employed full time, 0.5 if employed part-time, and 0 if unemployed; Homeowner=1 if homeowner, 0 otherwise Cards=1 if presently has 1-5 credit cards, 0 otherwise The store determines that a score of at least 0.7 indicates a very good credit risk, and it will extend credit to the individuals. If Janice is employed half time, is a homeowner, and has 2 credit cards at present, does the model indicate she should receive credit? 18. Emily Cheney is evaluating a proposal to extend credit to a group of new customers. The new customers will generate an average of $40,000 per day in new sales. On average, they will pay in 68 days. The variable cost ratio is 80%, collection expenses are 2% of sales, and the cost of capital is 10%. What is the NPV of one day's sales if Emily grants credit? Assume that there is no bad debt loss. Use the following information for questions 19-21. Your firm's CFO has tasked you with evaluating the net present value associated with changing the firm's trade credit terms from net 30 days to net 45 days.Other pertinent assumptions include: Annual sales with existing credit terms = $5,000,000 Variable cost ratio with existing credit terms = 30% of revenues Costs of collections with existing credit terms = 1% of revenues Bad debt expense ratio with existing credit terms = 2% of revenues Annual sales with new credit terms = $5,500,000 Variable cost ratio with new credit terms = 30% of revenues Costs of collections with new credit terms = 1% of revenues Bad debt expense ratio with new credit terms = 3% of revenues Discount rate = 10% 19. What is the daily net present value of the current trade credit policy? Assume that the variable costs are paid upfront while the costs of collections occur when the payment is received from the customer. 20. What is the daily net present value of the new trade credit policy? Assume that the variable costs are paid upfront while the costs of collections occur when the payment is received from the customer. 21. What is the aggregate increase in net present value from making this change to trade credit policy? 22. What is the optimal cash discount percentage with the following financial situation: Cash discount period=10 days, credit period=30 days, and annual cost of capital=22%. 23. Besley Inc., manufactures and sells wallboard for use in construction of modular homes. It sells on net 30 terms to contractors. Following are the last 6 months' sales and the A/R balances at the end of June, the present (report) month. Calculate the uncollected balance percentages for this company. Accounts Receivable Schedule; June 30 Month* Credit Sales Uncollected Amount January $ 75,000 $ 5,000 February 50,000 5,000 March 100,000 6,000 April 40,000 6,000 May 45,000 8,000 June 50,000 12,000 June 30 A/R balance $42,000 * assume all months have 30 days 1 Calculation of cash profit: Amount Cash Received from receivables Less: Cash paid for inventories Cash paid for operating expenses Operating Profit Less: Interest paid Less: Taxes Cash Profit 2 Starting inventory Add: Purchase Total goods available Less: Cost of Goods sold Ending Inventory 4600 2050 1450 1100 75 320 ?? 705 ?? Amount $35,000 50,000 $85,000 45,000 $40,000 3 Quick Ratio for 2000 = 4 Working capital requirement to sales ratio = 5 2001 cash conversion efficiency = 210.89 days 6 2000 cash conversion period = 255.50 days 7 Return on Equity for 2001 = Payout Ratio = 15.80% 71.43% Sustainable Growth rate = 4.52% 8 9 Show me formula for yor w 1.83 times 41.00% Given, Demand Ordering cost Holding cost EOQ = 500,000 tons $20 per order $1.25 per ton 4000 tons Given, Demand Ordering cost Holding cost Days EOQ = 200,000 units $50 per order $3.00 units 250 days 2582 units 10 Number of orders should be placed = Average inventory balance 77 orders 1291 units 11 Inventory level to place order = 1600 units ?? ?? ?? ?? 12 Optimal order quantity Price Number of Orders Ordering cost Inventory holding cost Purchase cost Total Inventory Cost = 13 Purchase Ending Inventory March Balance Fraction = $2,280 456 20% 14 Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $ $1,000 $950 $20 60 days 18% 0.0005 2.96% 951.84 NPV of extending credit = $ Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $10,000 $8,000 $200 60 days 8% 0.0002 1.32% $ 9,672.80 NPV of extending credit = $ 1,672.80 Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 90 days PV of Order value $20,000 $19,100 $500 90 days 10% 0.0003 2.47% $ 19,030.75 NPV of extending credit = $ 15 16 4,000 units $4.98 per unit 50 $2,500 $4,800 $996,000 $1,003,300 1.84 (69.25) 17 Calculation of Credit score of Janice: Employment 0.1 Homeowner 0.4 Cards 0.3 Total Credit Score 0.8 Janice has a credit score of above 0.7 so she would receive credit. 18 Given, New Sales per day Variable cost Collection cost Time Cost of Capital Daily Interest Rate For 68 days PV of Extending credit $40,000 $32,000 $800 68 days 10% 0.0003 1.86% $ 38,483.06 NPV of One day sales = $ 6,483.06 Given, Current sales Per Day Variable cost Collection cost Bad Debts Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit $13,699 $4,110 $137 $274 30 days 10% 0.0003 0.82% $ 13,179.35 NPV of current sales per day = $ 9,069.76 ?? Given, New sales Per Day Variable cost Collection cost Bad Debts Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit $15,068 $4,521 $151 $452 45 days 10% 0.0003 1.23% $ 14,289.58 NPV of current sales per day = $ 9,769.03 ?? 19 20 21 Aggregate increase in Net Present value from change 22 Given, $ 699.27 ?? Cash discount period = Credit Period = Annual cost of capital = Per Day cost For 20 Days = Optimal cash discount % = 23 Given, Month January February March April May June Total Uncollected Balance % 10 days 30 days 22% 0.00060274 1.21% 1.21% ?? Sales Uncollected balance $75,000 $5,000 50,000 5,000 100,000 6,000 40,000 6,000 45,000 8,000 50,000 12,000 $360,000 $42,000 11.67% ?? Show me formula for yor work I mean leters formula for all marked answers 1 Calculation of cash profit: Amount Cash Received from receivables Less: Cash paid for inventories Cash paid for operating expenses Operating Profit Less: Interest paid Less: Taxes Cash Profit 2 Starting inventory Add: Purchase Total goods available Less: Cost of Goods sold Ending Inventory 4600 (Opening receivables + Sales - Closing 2050 (Cost of Goods sold - Decrease in inven 1450 (Operating expenses + Opening accrua 1100 75 (Given) 320 (Given) 705 Amount $35,000 50,000 $85,000 45,000 $40,000 3 Quick Ratio for 2000 = 4 Working capital requirement to sales ratio = 5 2001 cash conversion efficiency = 210.89 days 6 2000 cash conversion period = 255.50 days 7 Return on Equity for 2001 = Payout Ratio = 15.80% 71.43% Sustainable Growth rate = 4.52% 8 9 10 1.83 times 41.00% Given, Demand Ordering cost Holding cost EOQ = 500,000 tons $20 per order $1.25 per ton 4000 tons Given, Demand Ordering cost Holding cost Days EOQ = 200,000 units $50 per order $3.00 units 250 days 2582 units Number of orders should be placed = 77 orders (Cash & Equivalents + Accou (Current Assets - Current liab [365 / (Sales / Average recei Return on Equity = Payout ratio = ROE x (1 - Payout ratio) Average inventory balance 1291 units 11 Inventory level to place order = 1600 units 12 Optimal order quantity Price Number of Orders Ordering cost Inventory holding cost Purchase cost Total Inventory Cost = 13 Purchase Ending Inventory March Balance Fraction = $2,280 456 20% 14 Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $ $1,000 $950 $20 60 days 18% 0.0005 2.96% 951.84 NPV of extending credit = $ Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $10,000 $8,000 $200 60 days 8% 0.0002 1.32% $ 9,672.80 NPV of extending credit = $ 1,672.80 15 16 Given, Order value Cost of filling the order Collection cost 4,000 units $4.98 per unit 50 $2,500 $4,800 $996,000 $1,003,300 1.84 $20,000 $19,100 $500 Time Cost of Capital Daily Interest Rate For 90 days PV of Order value 90 days 10% 0.0003 (Cost of capital / 365) 2.47% (Daily Interest rate x Number of days) $ 19,030.75 (Order value - Collection cost) / (1 + Int NPV of extending credit = $ (69.25) (PV of order value - Cost of filling order 17 Calculation of Credit score of Janice: Employment 0.1 (Credit score for part time employment Homeowner 0.4 (For home owner factor is 1, and Janice Cards 0.3 (For cards factor is 1. She has credit ca Total Credit Score 0.8 Total Janice has a credit score of above 0.7 so she would receive credit. 18 Given, New Sales per day Variable cost Collection cost Time Cost of Capital Daily Interest Rate For 68 days PV of Extending credit $40,000 $32,000 $800 68 days 10% 0.0003 1.86% $ 38,483.06 NPV of One day sales = $ 6,483.06 Given, Current sales Per Day Variable cost Collection cost Bad Debts Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit $13,699 (Annual sales / 365) $4,110 (Daily sales x variable cost precentage $137 (1% of revenue) So sales per day x 1% $274 (2% of sales givenin the question) 30 days 10% 0.0003 (Cost of capital / 365) 0.82% (Daily rate x 30 days) $ 13,179.35 (Sales per day - Collection cost - bad de NPV of current sales per day = $ 9,069.76 19 20 Given, New sales Per Day Variable cost Collection cost Bad Debts $15,068 $4,521 $151 $452 (Annual sales with new credit terms / 36 (Daily sales x variable cost precentage (1% of revenue) So sales per day x 1% (3% of sales givenin the question) Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit 45 days 10% 0.0003 (Cost of capital / 365) 1.23% (Daily rate x 45 days) $ 14,289.58 (Sales per day - Collection cost - bad de NPV of new sales per day = $ 9,769.03 21 Aggregate increase in Net Present value from change 22 Given, Cash discount period = Credit Period = Annual cost of capital = Per Day cost For 20 Days = Optimal cash discount % = 23 Given, Month January February March April May June Total Uncollected Balance % $ 699.27 (NPV of new sales per day - 10 days 30 days 22% 0.00060274 1.21% 1.21% Sales Uncollected balance $75,000 $5,000 50,000 5,000 100,000 6,000 40,000 6,000 45,000 8,000 50,000 12,000 $360,000 $42,000 11.67% vables + Sales - Closing receivables) sold - Decrease in inventory + Increase in accounts payables) enses + Opening accruals -Closing accruals) sh & Equivalents + Accounts Receivables) / (Accounts Payables + Note Payable + Operating accruals + Current maturities) rent Assets - Current liabilities) / Sales / (Sales / Average receivables) + 365 / (Cost of goods sold / Average inventory) - 365 / (Cost of goods sold / Average Acco urn on Equity = E x (1 - Payout ratio) Net Income / Stockholder's Equity Dividend / Net Income ate x Number of days) Collection cost) / (1 + Interest rate for 90 days computed above) lue - Cost of filling order) or part time employment is 0.5. Multiply this by 0.2(Given in the question) er factor is 1, and Janice is home owner so total score is 1 x 0.4) or is 1. She has credit cards so multiply 1 to 0.3) ariable cost precentage given in the question) e) So sales per day x 1% venin the question) - Collection cost - bad debts) / (1 + interest for 30 days) with new credit terms / 365) ariable cost precentage given in the question) e) So sales per day x 1% venin the question) - Collection cost - bad debts) / (1 + interest for 45 days) V of new sales per day - NPV of current sales per day) uals + Current maturities) oods sold / Average Accounts payable)] 1 Calculation of cash profit: Amount Cash Received from receivables Less: Cash paid for inventories Cash paid for operating expenses Operating Profit Less: Interest paid Less: Taxes Cash Profit 2 Starting inventory Add: Purchase Total goods available Less: Cost of Goods sold Ending Inventory 4600 (Opening receivables + Sales - Closing 2050 (Cost of Goods sold - Decrease in inven 1450 (Operating expenses + Opening accrua 1100 75 (Given) 320 (Given) 705 Amount $35,000 50,000 $85,000 45,000 $40,000 3 Quick Ratio for 2000 = 4 Working capital requirement to sales ratio = 5 2001 cash conversion efficiency = 210.89 days 6 2000 cash conversion period = 255.50 days 7 Return on Equity for 2001 = Payout Ratio = 15.80% 71.43% Sustainable Growth rate = 4.52% 8 9 1.83 times 41.00% Given, Demand Ordering cost Holding cost EOQ = 500,000 tons $20 per order $1.25 per ton 4000 tons Given, Demand Ordering cost Holding cost Days EOQ = 200,000 units $50 per order $3.00 units 250 days 2582 units 10 Number of orders should be placed = Average inventory balance 77 orders 1291 units 11 Inventory level to place order = 1600 units (Cash & Equivalents + Accou (Current Assets - Current liab [365 / (Sales / Average recei Return on Equity = Payout ratio = ROE x (1 - Payout ratio) 12 Optimal order quantity Price Number of Orders Ordering cost Inventory holding cost Purchase cost Total Inventory Cost = 13 Purchase Ending Inventory March Balance Fraction = $2,280 456 20% 14 Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $ $1,000 $950 $20 60 days 18% 0.0005 2.96% 951.84 NPV of extending credit = $ Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 60 days PV of Order value $10,000 $8,000 $200 60 days 8% 0.0002 1.32% $ 9,672.80 NPV of extending credit = $ 1,672.80 Given, Order value Cost of filling the order Collection cost Time Cost of Capital Daily Interest Rate For 90 days PV of Order value $20,000 $19,100 $500 90 days 10% 0.0003 (Cost of capital / 365) 2.47% (Daily Interest rate x Number of days) $ 19,030.75 (Order value - Collection cost) / (1 + Inte NPV of extending credit = $ 15 16 4,000 units $4.98 per unit 50 $2,500 $4,800 $996,000 $1,003,300 1.84 (69.25) (PV of order value - Cost of filling order) 17 Calculation of Credit score of Janice: Employment 0.1 (Credit score for part time employment i Homeowner 0.4 (For home owner factor is 1, and Janice Cards 0.3 (For cards factor is 1. She has credit ca Total Credit Score 0.8 Total Janice has a credit score of above 0.7 so she would receive credit. 18 Given, New Sales per day Variable cost Collection cost Time Cost of Capital Daily Interest Rate For 68 days PV of Extending credit $40,000 $32,000 $800 68 days 10% 0.0003 1.86% $ 38,483.06 NPV of One day sales = $ 6,483.06 Given, Current sales Per Day Variable cost Collection cost Bad Debts Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit $13,699 (Annual sales / 365) $4,110 (Daily sales x variable cost precentage g $137 (1% of revenue) So sales per day x 1% $274 (2% of sales givenin the question) 30 days 10% 0.0003 (Cost of capital / 365) 0.82% (Daily rate x 30 days) $ 13,179.35 (Sales per day - Collection cost - bad de NPV of current sales per day = $ 9,069.76 Given, New sales Per Day Variable cost Collection cost Bad Debts Time Cost of Capital Daily Interest Rate For 30 days PV of Extending credit $15,068 (Annual sales with new credit terms / 36 $4,521 (Daily sales x variable cost precentage g $151 (1% of revenue) So sales per day x 1% $452 (3% of sales givenin the question) 45 days 10% 0.0003 (Cost of capital / 365) 1.23% (Daily rate x 45 days) $ 14,289.58 (Sales per day - Collection cost - bad de NPV of new sales per day = $ 9,769.03 19 20 21 Aggregate increase in Net Present value from change 22 Given, $ 699.27 (NPV of new sales per day - Cash discount period = Credit Period = Annual cost of capital = Per Day cost For 20 Days = Optimal cash discount % = 23 Given, Month January February March April May June Total Uncollected Balance % 10 days 30 days 22% 0.00060274 1.21% 1.21% Sales Uncollected balance $75,000 $5,000 50,000 5,000 100,000 6,000 40,000 6,000 45,000 8,000 50,000 12,000 $360,000 $42,000 11.67% vables + Sales - Closing receivables) sold - Decrease in inventory + Increase in accounts payables) enses + Opening accruals -Closing accruals) ALL MARKED ANSWERS ARE WRONG CHECK THEM AND THEIR FORMULAS, ALSO I NEED FORMULAS sh & Equivalents + Accounts Receivables) / (Accounts Payables + Note Payable + Operating accruals + Current maturities) rent Assets - Current liabilities) / Sales / (Sales / Average receivables) + 365 / (Cost of goods sold / Average inventory) - 365 / (Cost of goods sold / Average Acco urn on Equity = E x (1 - Payout ratio) Net Income / Stockholder's Equity Dividend / Net Income ate x Number of days) Collection cost) / (1 + Interest rate for 90 days computed above) lue - Cost of filling order) r part time employment is 0.5. Multiply this by 0.2(Given in the question) er factor is 1, and Janice is home owner so total score is 1 x 0.4) or is 1. She has credit cards so multiply 1 to 0.3) ariable cost precentage given in the question) ) So sales per day x 1% venin the question) - Collection cost - bad debts) / (1 + interest for 30 days) with new credit terms / 365) ariable cost precentage given in the question) ) So sales per day x 1% venin the question) - Collection cost - bad debts) / (1 + interest for 45 days) V of new sales per day - NPV of current sales per day) O I NEED FORMULAS FOR ALL THE REST ANSWERS ls + Current maturities) ds sold / Average Accounts payable)] Chapter 1 The Role of Working Capital Sales Inv A /R Cash Copyright 2005 by Thomson Learning, Inc. Objectives View firm as a system of cash flows How WC and depreciation create disparities between profit and cash flow Management aspects of various WC accounts Copyright 2005 by Thomson Learning, Inc. The Cash Flow Timeline Order Order Placed Placed Order Order Received Received Sale Sale Payment PaymentSent Sent Cash Cash Received Received Accounts Collection Accounts Collection > > > Accounts Accounts > Invoice InvoiceReceived Received Disbursement Disbursement > Float Time Time==> ==> Payment Disbursed Copyright by Thomson Learning, Inc. PaymentSent Sent 2005Cash Cash Disbursed ...in the beginning Balance BalanceSheet Sheet--June June11 Cash Cash $1,000 $1,000 Debt Debt Common CommonStock Stock $$ 500 500 500 500 Total Total $1,000 $1,000 Total Total $1,000 $1,000 Copyright 2005 by Thomson Learning, Inc. The Next Day, June 2 Balance BalanceSheet Sheet--June June22 Purchase PurchaseFixed FixedAssets Assetsand andInventory Inventory Cash $$ 400 Cash 400 Inventory 300 Inventory 300 Fixed 600 FixedAssets Assets 600 A/P A/P Debt Debt Common CommonStock Stock $$ 300 300 500 500 500 500 Total Total Total Total $1,300 $1,300 $1,300 $1,300 Copyright 2005 by Thomson Learning, Inc. Income Statement: June 1 to June 30 Sales COGS Gross Profit Operating Expenses Depreciation Operating Profit Interest Taxes Net Profit Dividends Addition to Retained Earnings $700 -300 $400 -200 -100 $100 -50 -25 $25 -0 $25 Copyright 2005 by Thomson Learning, Inc. End of June Balance BalanceSheet Sheet--June June30 30 Sale Saleof ofproduct, product,incur incuroperating operatingexpenses, expenses, incur incurdepreciation, depreciation,and andgenerate generateprofit profit Cash $$ 325 Cash 325 A/R 700 A/R 700 Inventory 00 Inventory Fixed 600 FixedAssets Assets 600 (Accum (AccumDepr) Depr) (100) (100) Total $1,525 Total $1,525 A/P A/P Accruals Accruals Debt Debt Common CommonStock Stock Retained RetainedEarnings Earnings Total Total $$ 300 300 200 200 500 500 500 500 25 25 $1,525 $1,525 Copyright 2005 by Thomson Learning, Inc. July 1 Balance BalanceSheet Sheet--July July11 Pay Payoperating operatingaccruals accrualswith withcash cash Cash $$ 125 Cash 125 A/R 700 A/R 700 Inventory 00 Inventory Fixed 600 FixedAssets Assets 600 (Accum (AccumDepr) Depr) (100) (100) Total $1,325 Total $1,325 A/P A/P Accruals Accruals Debt Debt Common CommonStock Stock Retained RetainedEarnings Earnings Total Total $$ 300 300 00 500 500 500 500 25 25 $1,325 $1,325 Copyright 2005 by Thomson Learning, Inc. July 15 Balance BalanceSheet Sheet--July July15 15 Pay Paypayables payableswith withcash cash Cash $$((175) Cash 175) A/R 700 A/R 700 Inventory 00 Inventory Fixed 600 FixedAssets Assets 600 (Accum (AccumDepr) Depr) (100) (100) Total $1,025 Total $1,025 A/P A/P Accruals Accruals Debt Debt Common CommonStock Stock Retained RetainedEarnings Earnings Total Total $$ 00 00 500 500 500 500 25 25 $1,025 $1,025 Copyright 2005 by Thomson Learning, Inc. July 31 Balance BalanceSheet Sheet--July July31 31 Collect Collectaccounts accountsreceivable receivable Cash $$ 525 Cash 525 A/R 00 A/R Inventory 00 Inventory Fixed 600 FixedAssets Assets 600 (Accum (AccumDepr) Depr) (100) (100) Total $1,025 Total $1,025 A/P A/P Accruals Accruals Debt Debt Common CommonStock Stock Retained RetainedEarnings Earnings Total Total $$ 00 00 500 500 500 500 25 25 $1,025 $1,025 Copyright 2005 by Thomson Learning, Inc. Profit versus Cash Flow Question: Why did the firm end up with $125 in additional cash while earning a profit of $25? Answer: Some expenses are not cash expenses. Question: Why did the firm run out of cash during its operating cycle? Answer: The cash deficit was due to the differences between the timing of cash disbursements and cash receipts. Copyright 2005 by Thomson Learning, Inc. Important Points The firm must manage its cost structure to generate a profit WC accounts must be managed so that liquidity is maintained. Copyright 2005 by Thomson Learning, Inc. Relationship Between Accrual Income and Cash Flow Income Statement Adjustment Account Cash Flow Account Sales - Change in accounts receivable = Cash collect Cost of goods sold - Change in accounts payable + Change in inventory = Cash paid to Operating expenses - Change in operating accruals - Depreciation = Cash paid for operating expense Interest Taxes _________________ Net Profit - Change in accrued interest - Change in accrued taxes - Change in deferred taxes = Cash = Cash paid fo ___________________ Operating Cash Flow Copyright 2005 by Thomson Learning, Inc. June 1 - June 30 Income Statement Adjustment Account Cash Flow Account Sales collected $700 Cost of goods sold - Change in accounts receivable = Cash $700 - Change in accounts payable + Change in inventory $0 = Cash paid to suppliers $300 $300; $0 $0 Operating expenses - Change in operating accruals - Depreciation = Cash paid for operating expenses $300 $200; $100 $0 Interest - Change in accrued interest = Cash paid to creditors $50 $0 $50 Taxes - Change in accrued taxes - Change in deferred taxes = Cash paid Copyright 2005 by Thomson Learning, Inc. for taxes June 1 - July 15 Income Statement Adjustment Account Cash Flow Account Sales collected $700 Cost of goods sold - Change in accounts receivable = Cash $700 - Change in accounts payable + Change in inventory $0 = Cash paid to suppliers $300 $0; $0 $300 Operating expenses - Change in operating accruals - Depreciation = Cash paid for operating expenses $300 $0; $100 $200 Interest - Change in accrued interest = Cash paid to creditors $50 $0 $50 Taxes - Change in accrued taxes - Change in deferred taxes = Cash paid Copyright 2005 by Thomson Learning, Inc. for taxes June 1 - July 31 Income Statement Adjustment Account Cash Flow Account Sales collected $700 Cost of goods sold - Change in accounts receivable = Cash $0 - Change in accounts payable + Change in inventory $700 = Cash paid to suppliers $300 $0; $0 $300 Operating expenses - Change in operating accruals - Depreciation = Cash paid for operating expenses $300 $0; $100 $200 Interest - Change in accrued interest = Cash paid to creditors $50 $0 $50 Taxes - Change in accrued taxes - Change in deferred taxes = Cash paid Copyright 2005 by Thomson Learning, Inc. for taxes Managing the Cash Cycle Managing Receivables Managing Inventory Managing Payables Electronic Commerce Copyright 2005 by Thomson Learning, Inc. Managing Receivables Who should receive credit and how much? Credit terms Monitoring the outstanding balance Speeding up the receipt of payments through lockboxes Copyright 2005 by Thomson Learning, Inc. Managing Inventory Trade-offs between: - ordering costs - stock out costs - cost of excess inventory Copyright 2005 by Thomson Learning, Inc. Managing Payables Search for terms that match with cash receipts Timing of payment Controlled disbursement Copyright 2005 by Thomson Learning, Inc. Electronic Commerce Revolutionizing management of cash cycle Impact of Internet Copyright 2005 by Thomson Learning, Inc. How Much WC is Enough One view - - - optimal level is zero WC is an idle resource Provides little value How much in resources to commit? - - - Why inventory? Why receivables and payables? Why short-term investments? Copyright 2005 by Thomson Learning, Inc. How Management of Working Capital is Changing Exhibit 1-6 Working Capital Requirements as a Percent of Sales 35% 30% Percent of Sales 25% 20% Dell 15% Apple 10% Compaq 5% Gateway 0% -5% 1994 1995 1996 1997 1998 1999 2000 2001 2002 -10% Years Copyright 2005 by Thomson Learning, Inc. Summary Firm must operate at a profitable level. A profitable firm may still struggle financially. A successful firm's operation is managed from a - profit, and a - cash flow perspective. Copyright 2005 by Thomson Learning, Inc. Chapter 2 Analysis of Solvency, Liquidity, and Financial Flexibility Order Order Placed Placed Order Order Received Received Sale Sale Payment PaymentSent Sent Cash Cash Received Received Accounts Collection Accounts Collection > > > Accounts Accounts > Invoice InvoiceReceived Received Disbursement Disbursement > Float Time Time==> ==> Payment Cash Disbursed Copyright by Thomson Learning, Inc. PaymentSent Sent 2005 Cash Disbursed Learning Objectives Differentiate between solvency and liquidity ratios Conduct a liquidity analysis Assess a firm's financial flexibility position Copyright 2005 by Thomson Learning, Inc. Financial Statements - Basic Source of Information Balance Sheet Income Statement Statement of Cash Flows Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Solvency Measures Current Ratio Quick Ratio Net Working Capital Working Capital Requirements Net Liquid Balance Copyright 2005 by Thomson Learning, Inc. Current Ratio Current Currentassets assets Current Currentratio ratio == ------------------------------------------------Current Currentliabilities liabilities $8,924 $8,924 Current Currentratio ratio == ----------------------- == 1.00 1.00 $8,933 $8,933 Current Currentratio ratio 1999 1999 1.72 1.72 2000 2000 2001 2001 2002 2002 2003 2003 1.48 1.48 1.45 1.45 1.05 1.05 1.00 1.00 Copyright 2005 by Thomson Learning, Inc. Quick Ratio Current Currentassets assets--Inventories Inventories Quick Quickratio ratio == ------------------------------------------------------------------------Current Currentliabilities liabilities $8,924 $8,924-- $306 $306 Quick Quickratio ratio == ------------------------------------- == .96 .96 $8,933 $8,933 Quick Quickratio ratio 1999 1999 1.64 1.64 2000 2000 2001 2001 2002 2002 2003 2003 1.40 1.40 1.39 1.39 1.01 1.01 0.96 0.96 Copyright 2005 by Thomson Learning, Inc. Net Working Capital Net Networking working capital capital == CA CA -- CL CL Net Networking workingcapital capital == $8,924 $8,924--$8,933 $8,933 == ($9) ($9) ($000,000) 1999 2000 2001 ($000,000) 1999 2000 2001 Net Networking workingcapital capital $2,644 $2,644 $2,489 $2,489 $2,948 $2,948 2002 2002 $358 $358 2003 2003 ($9) ($9) Copyright 2005 by Thomson Learning, Inc. NWC and its Component Parts CA CL CA CL CA Cash Cash Cash Mkt Sec Mkt Sec Mkt Sec CL A/R A/P A/R A/P A/R A/P Inventory N/P Inventory N/P Inventory N/P Prepaid CMLTD Prepaid CMLTD Prepaid CMLTD NWC = CA - CL Net Working Capital WCR = A/R + INV +Pre - A/P Working Capital Requirements Copyright NLB = Cash + M/S - N/P - CMLTD Net by Liquid 2005 ThomsonBalance Learning, Inc. Working Capital Requirements ($2,586+$306+$1,394) ($2,586+$306+$1,394)--($5,989+$54+$1,458+$1,432) ($5,989+$54+$1,458+$1,432) WCR/S WCR/S == ------------------------------------------------------------------------------------------------------------------------------------$35,404 $35,404 ($4,647) ($4,647) == ------------------- == -.1313 -.1313 $35,404 $35,404 WCR/S WCR/S 1999 1999 2000 2000 2001 2001 2002 2002 2003 2003 --0.029 0.029 -0.065 -0.065 -0.078 -0.078 -0.114 -0.114 -0.131 -0.131 Copyright 2005 by Thomson Learning, Inc. Net Liquid Balance Net Netliquid liquidbalance balance == Cash Cash ++ Equiv. Equiv. -- (N/P (N/P++CMLTD) CMLTD) Net Netliquid liquidbalance balance==$4,638 $4,638--($0) ($0) ==$4,638 $4,638 ($000,000) 1999 ($000,000) 1999 2000 2000 2001 2001 2002 2002 2003 2003 Net Netliquid liquidbalance balance $3,181 $3,181 $4,132 $4,132 $5,438 $5,438 $3,914 $3,914 $4,638 $4,638 Copyright 2005 by Thomson Learning, Inc. What is Liquidity? Ingredients - - - Time Amount Cost Definition - Having enough financial resources to cover financial obligations in a timely manner with minimal costs Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Liquidity Measures Cash Flow From Operations Cash Conversion Efficiency Cash Conversion Period Current Liquidity Index Lambda Copyright 2005 by Thomson Learning, Inc. Cash Flow From Operations ($ ($000,000) 000,000) CFFO CFFO 1999 1999 2000 2000 2001 2001 2002 2002 2003 2003 $2,436 $2,436 $3,926 $3,926 $4,195 $4,195 $3,797 $3,797 $3,538 $3,538 Copyright 2005 by Thomson Learning, Inc. Cash Conversion Efficiency ($ ($000,000) 000,000) CFFO CFFO Revenues Revenues Operating Operatingprofit profit Net Netprofit profit 1999 1999 $2,436 $2,436 18,243 18,243 2,046 2,046 1,460 1,460 2000 2000 $3,926 $3,926 25,265 25,265 2,457 2,457 1,666 1,666 2001 2001 $4,195 $4,195 31,888 31,888 2,768 2,768 2,177 2,177 2002 2002 2003 2003 $3,797 $3,797 $3,538 $3,538 31,168 31,168 35,404 35,404 2,271 2,271 2,844 2,844 1,246 1,246 2,122 2,122 (Percentage (Percentageof ofsales) sales) Operating Operatingprofit profitmargin margin 11.21 11.21 9.72 9.72 8.68 8.68 7.28 7.28 Net 8.00 Netprofit profitmargin margin 8.00 6.59 6.59 6.82 6.82 3.99 3.99 Cash Cashconversion conversionefficiency efficiency 13.35 13.35 15.54 15.54 13.15 13.15 12.18 12.18 8.03 8.03 5.99 5.99 9.99 9.99 Cash Cashconversion conversionefficient efficient==CFFO CFFO//Sales SalesCopyright 2005 by Thomson Learning, Inc. Cash Conversion Chart Inventory stocked Inventory sold Days inventory held Days payables outstanding Cash received Days sales outstanding Cash conversion period Cash disbursed Copyright 2005 by Thomson Learning, Inc. Cash Conversion Days inventory held = Inventory / (Cost of goods sold/365) Days sales outstanding = Receivables / (Sales/365) Days payable outstanding = Payables / (Cost of goods sold/365) Copyright 2005 by Thomson Learning, Inc. Cash Conversion Period Calculations Cash Cashconversion conversionperiod period == DIH DIH ++ DSO DSO -- DPO DPO (Days) (Days) DIH DIH DSO DSO 1999 1999 7.10 7.10 49.64 49.64 ------------Operating 56.74 Operatingcycle cycle 56.74 DPO 62.34 DPO 62.34 ------------Cash Cashconversion conversionperiod period -5.60 -5.60 2000 2000 7.17 7.17 38.69 38.69 ------------45.86 45.86 64.92 64.92 -------------19.06 -19.06 2001 2001 2002 2002 5.79 3.99 5.79 3.99 33.14 33.14 26.57 26.57 ------------- ------------38.93 38.93 30.56 30.56 62.07 62.07 72.87 72.87 ------------- -------------23.14 -23.14 -42.31 -42.31 2003 2003 3.87 3.87 26.66 26.66 ------------30.53 30.53 75.79 75.79 -------------45.26 -45.26 Copyright 2005 by Thomson Learning, Inc. Current Liquidity Index Cash Cashassets assetst-1t-1 ++ CFFO CFFOt t CLI CLI == ----------------------------------------------------------------N/P N/Pt-1t-1 ++ CMLTD CMLTDt-1t-1 $4,638 $4,638 ++ $3,538 $3,538 CLI CLI == ----------------------------------------- == infinite infinite $0 $0++$0 $0 Copyright 2005 by Thomson Learning, Inc. Lambda Initial Initialliquid liquid Total Totalanticipated anticipatednet netcash cashflow flow reserve ++ during reserve duringthe theanalysis analysishorizon horizon Lambda Lambda == ------------------------------------------------------------------------------------------------------------------------------------Uncertainty Uncertaintyabout aboutthe thenet netcash cashflow flowduring duringthe the analysis analysishorizon horizon Copyright 2005 by Thomson Learning, Inc. Financial Flexibility: sustainable growth rate Copyright 2005 by Thomson Learning, Inc. Dell's sustainable growth rate .039977 x (1 - 0.00) x (1 + 1.8834) g = ----------------------------------------------------= .43426 - [0.039977 x (1 - 0.00)(1 + 1.8834)] = 36.14% uses 2002 data to calculate the sustainable 2003 g. Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Summary Chapter introduced basic concepts of: - solvency - liquidity - financial flexibility Solvency: an accounting concept comparing assets to liabilities. Liquidity: related to a firm's ability to pay for its current obligations in a timely fashion with minimal costs. Financial flexibility : related to a firm's overall financial structure and if financial policies allows firm enough flexibility to take advantage of unforeseen opportunities. Copyright 2005 by Thomson Learning, Inc. Chapter 4 Managing Inventory Order Order Placed Placed Order Order Received Received Sale Sale Payment PaymentSent Sent Cash Cash Received Received Accounts Collection Accounts Collection > > > Accounts Accounts > Invoice InvoiceReceived Received Disbursement Disbursement > Float Time Time==> ==> Payment Cash Disbursed Copyright 2005 by Thomson Learning, Inc. PaymentSent Sent Cash Disbursed Objectives Appreciate impact of holding and ordering costs on order quantity Traditional Economic Order Quantity (EOQ) & quantity discounts Appreciate Just-in-time JIT concepts Assess impact that different order quantities have on timing and amount of payments Use of balance fractions to monitor inventory balances Copyright 2005 by Thomson Learning, Inc. Concept of Inventory Factor in the length of cash cycle Acts as a shock absorber Three types - raw materials - work-in-process - finished goods Motives for holding inventory - transaction - precautionary - speculative Copyright 2005 by Thomson Learning, Inc. Inventory Investment Function Cost of ordering inventory Cost of holding inventory - insurance - storage - cost of capital Total cost = Order Cost + Holding Cost = (order cost per order * No. of orders) + (holding cost per inventory item * average inventory balance) = F x (T/Q) + H x (Q/2) Where: Total inventory units demanded Order quantity Fixed order cost per order Holding cost per inventory unit T Q F H Copyright 2005 by Thomson Learning, Inc. Order Cost and Holding Cost Tradeoff $ Holding cost = H x (Q/2) Order costs = F x (T/Q) Order quantity, Q Copyright 2005 by Thomson Learning, Inc. Economic Order Quantity EOQ solution: SQRT (2TF/H) Number of orders: T/Q Average inventory: Q/2 Usage rate: T/D Reorder point: (T/D) x Delivery Time (D=days) Copyright 2005 by Thomson Learning, Inc. Copyright 2005 by Thomson Learning, Inc. Example: calculate EOQ Cory Manufacturing forecasts that its production process will require 500,000 tons of scrap metal over its planning period. Demand for Cory's products is not affected by seasonal variations and remains quite stable. Ordering costs amount to an average of $20 per order which includes clerical and computer time, phones, and mail. Holding cost per ton of scrap metal is estimated at $1.25. The costs are minimal given that the metal can be stored outside and management has never seen the need for insurance. Also assume that a production run equals to 375 working days and Cory has experienced an average of 2 days' delivery time. Calculate EOQ for Cory Manufacturing. Copyright 2005 by Thomson Learning, Inc. Example: calculate EOQ EOQ = SQRT {(2*500,000*$20)/$1.25} = 4,000 tons No. of orders = Total inventory requirements/order size = 500,000/4000 = 125 Average inventory balance = EOQ / 2 = 2,000 tons Usage rate = units of inventory required / No. of days in the planning period = 500,000/375 = 1,333 tons per day Reorder point = Daily usage rate * Delivery time = 1,333*2 = 2,666 tons Copyright 2005 by Thomson Learning, Inc. Safety Stock Consideration Average Inventory balance: EOQ/2 + Safety stock Reorder point: Daily usage rate * Delivery time + Safety stock Copyright 2005 by Thomson Learning, Inc. Quantity Discounts TC TC== Order OrderCost Cost ++ Holding HoldingCost Cost ++ Item ItemCost Cost TC TC== (F (Fxx(T/Q)) (T/Q)) ++ (H (Hxx(Q/2)) (Q/2)) ++ (C' (C'xxT) T) Copyright 2005 by Thomson Learning, Inc. Quantity Discounts Copyright 2005 by Thomson Learning, Inc. Inventory and the Cash Flow Timeline Copyright 2005 by Thomson Learning, Inc. Present value cost of current inventory policy Copyright 2005 by Thomson Learning, Inc. Monitor the Inventory Balance 1. Inventory control systems 2. Inventory turnover approach - Inventory turnover ratio Sales or COGS / Inventory balance - Days inventory held Inventory balance / Daily COGS or Sales For example, the annual cost of goods sold for a book publisher was $100,000 and the year-end inventory balance was $18,000. Inventory turnover = 100,000 / 18,000 =5.56 Days inventory hold = 18,000 / (100,000/365) = 65.70 days Copyright 2005 by Thomson Learning, Inc. 3. Balance fraction approach Develop monthly balance fractions based on the proportion of items remaining in inventory from a given month's purchase. Copyright 2005 by Thomson Learning, Inc. Reducing Investment in Inventory Just-in-time (JIT) inventory management system - Redesign of production system eliminate waste eliminate production errors improving quality - Need stable demand Traditional stock inventory approach Copyright 2005 by Thomson Learning, Inc. Summary Inventory decisions should be based on: - - - cost of holding inventory cost or ordering inventory quantity discounts Inventory, if properly managed can be a major contributor to cash flow...; if mismanaged, it can be a significant drain on cash. Copyright 2005 by Thomson Learning, Inc. Chapter 5 Accounts Receivable Management AA/ /RR Copyright 2005 by Thomson Learning, Inc. The Cash Flow Timeline Order Order Placed Placed Order Order Received Received Sale Sale Payment PaymentSent Sent Cash Cash Received Received Accounts Collection Accounts Collection > > > Accounts Accounts > Invoice InvoiceReceived Received Disbursement Disbursement > Float Time Time==> ==> Payment Cash Disbursed PaymentSent Sent Disbursed Copyright 2005Cash by Thomson Learning, Inc. Learning Objectives Define credit policy and indicate its components. Describe the typical credit-granting sequence. Apply net present value analysis to credit extension decisions. Define credit scoring and explain limitations. Describe how receivables management can benefit from electronic data interchange (EDI). Copyright 2005 by Thomson Learning, Inc. Trade Credit and Shareholder Value Trade credit arises when goods sold under delayed payment terms Traced to Romans due to obstacles faced in transferring money through various trading areas Credit terms are taken for granted today Value can be added by managing three areas: - - - aggregate investment in receivables credit terms credit standards Copyright 2005 by Thomson Learning, Inc. A/R Management and Shareholder Value Marketing Strategy Market Share Obj. Aggregate Inv. in A/R Total Dollar Investment Credit Terms Length of Time to Pay Credit Standards Acceptance of Marg Cust. Max Shareholder Value Copyright 2005 by Thomson Learning, Inc. Conclusion Minimize bad debts and outstanding receivables Maintain financial flexibility Optimize mix of company assets Convert receivables to cash in a timely manner Analyze customer risk Respond to customer needs Copyright 2005 by Thomson Learning, Inc. Trade vs. Bank Credit Copyright 2005 by Thomson Learning, Inc. The Motives for Trade Credit Financial Motive Operating Motive Contracting Cost Motive Pricing Motive All reasons are related to market imperfections Copyright 2005 by Thomson Learning, Inc. Trends Affecting Trade Credit Zero net working capital objective Improved internal and external credit-related information Electronic commerce Copyright 2005 by Thomson Learning, Inc. The Credit Decision Process Marketing contact Credit investigation Time Customer contact for information Finalize written documents, e.g.. security agreements Establish customer credit file Financial analysis Copyright 2005 by Thomson Learning, Inc. Credit-Granting Sequence Order and credit request received New/increased credit limit Yes Size of proposed credit limit Large Indepth Indepth credit creditinvest. invest. Medium Moderate credit invest. No Yes Material change in customer status No Redo credit investigation Check Checknew newA/R A/R total vs credit total vs creditlmt lmt Record disposition Small Minimal credit invest. Extend Credit No Yes Set up,post A/R, ship Copyright 2005 by Thomson Learning, Inc. Basic Credit Granting Model S - EXP(S) NPV = ----------------- - VCR(S) 1 + iCP Where: NPV = net present value of the credit sale VCR = variable cost ratio S = dollar amount of credit sale EXP = credit administration and collection expense ratio i = daily interest rate CP = collection period for sale The decision rule: If NPV>0, extend credit If NPV=0, probably extend credit (marginally acceptable) If NPV> > > Accounts Accounts > Invoice InvoiceReceived Received Disbursement Disbursement > Float Time Time==> ==> Payment Disbursed Copyright by Thomson Learning, Inc. PaymentSent Sent 2005Cash Cash Disbursed Objectives Specify advantages of NPV in evaluating credit policy alternatives. Calculate the NPV of alternative credit policies and select the best policy. Identify the 3 major traditional measures of collection patterns, calculate them, and understand their flaws. Calculate and interpret uncollected balance percentages and relate to traditional measures. Describe present corporate credit policy practices. Copyright 2005 by Thomson Learning, Inc. Evaluate Changes in Credit Policy Credit term change decision variables - - - - effect on dollar profits sales effect receivables effect return on investment effect 84% credit executives surveyed can estimate: - - - - default probability credit limits opportunity cost of funds invested in receivables company's overall cost of capital Copyright 2005 by Thomson Learning, Inc. Incremental Profit vs NPV Financial statement approach NPV approach Copyright 2005 by Thomson Learning, Inc. Changing Credit Terms, EQ 6.1 ZZNN== [(1+g)S [(1+g)SEE](1-d(1-dNN)P )PNN(1-b (1-bNN))//(1 (1++iDP iDPNN))PV PVdiscount discountpmts pmts ++[(1+g)S [(1+g)SEE](1-P(1-PNN)(1-b )(1-bNN))//(1 (1++iCP iCPNN)) PV PVnon-discount non-discountpmts pmts --VCR VCR[(1+g)S [(1+g)SEE]] PV PVvariable variablecost costpmts pmts --EXP EXPNN[(1+g)S [(1+g)SEE]]//(1 (1++iCP iCPNN)) PV PVcredit creditexpense expensepmts pmts Copyright 2005 by Thomson Learning, Inc. where Zn = NPV of new credit policy, one day's sales g = percent growth of credit sales caused by new policy Se = existing credit sales under present policy, per day dn = cash discount offered in new policy Pn = percent of credit customers expected to take new cash discount bn = bad debt loss percent under new policy i = daily interest rate DPn = cash discount period under the new policy CPn = average collection period of paying customers under new policy VCR = variable cost rate, per dollar of sales EXPn = variable collection / credit administration cost ratio under new policy Copyright 2005 by Thomson Learning, Inc. Changing Credit Terms, EQ 6.2 ZZEE== SSEE(1-d (1-dEE)P )PEE(1-b (1-bEE))//(1 (1++iDP iDPEE)) PV PVdiscount discountpmts pmts ++SSE(1-P )(1-b ) / (1 + iCP ) E(1-PEE)(1-bEE) / (1 + iCPEE) PV PVnon-discount non-discountpmts pmts --VCR VCR(S (SEE)) PV PVvariable variablecost costpmts pmts --EXP EXPEESSEE //(1 (1++iCP iCPEE)) PV PVcredit creditexpense expensepmts pmts Copyright 2005 by Thomson Learning, Inc. Changing Credit Terms, EQ 6.3, 6.4 EQ EQ6.3 6.3 ZZ == ZZNN--ZZEE Decision DecisionRule: Rule: IF IFZZ>>00 then thenAccept Acceptpolicy policychange change IfIfZZ==00then thenindifferent indifferentabout aboutpolicy policychange change IF IFZZ