Problem 2

a. Apache sells maintenance services to various private jet operators. For these, Apache's demands payment within 30 days. Apache is considering changing this policy to 1/5, net 30. What is the implicit effective annual rate in this payment policy?

b. Apache's maintenance service business grosses some $20M per year before discounts and its average days receivable is 30 (unlike the overall business where this number is ~40). If 25% of Apache's clients opt to pay earlier and get the discount: what will be the change in the service business's receivables? If Apache's cost of capital is 8%, what are the projected savings of this change in policy? If Apache's gross margin is 40%, by how much will gross dollar revenues have to rise to offset the loss from discounts? in percent?

c. A new client from out of town is quoted $6,000 for a repair. The service people ask you to approve this. You do a quick check on the client and assess a 15% default risk. What is the NPV of the client? What is the break-even probability? What is the minimum probability of collecting for you to approve the service?

X Cut > AutoSum AT 22 Wrap Text Times New Roman General 12 e Copy V Fill - Conditional Format as Cell Format Sort & Find & Paste Insert Delete B- A. A - I U- e.0 .00 Formatting Styles - Table Filter Select - Merge & Center V Format Painter Clear Clipboard Alignment Font Number Styles Cells Editing fe D20 A J K 1 a) Effective Annual Rate (EAR) c) One-Time Client b) Average Collection Period 2 3 Notional purchase 4 Discount (%) 5 Days difference Repair cost Default probability Gross revenue Avg. receivables before new policy % paying early Avg. receivables after new policy Change in receivables Cost of capital NPV of client Break-even probability 7 Discount ($) 8 Rate (%) 9 Days difference in 1 year Extend credit if probability of getting paid is higher than Projected savings in capital costs minus: discounts 10 Projected savings net of discounts Gross margin 11 EAR 12 Gross revenues must rise by: 13 - in dollars 14 - in percent 15 16 17 18 19 21 22 Prob. 1 Prob. 2 Ready 144% 05:54 01/07/2020