Question
The annual credit sales of the current period of a business are 2,555,000 euros and the accounts receivable amount to 1,050,000 euros. Sales are expected
The annual credit sales of the current period of a business are 2,555,000 euros and the accounts receivable amount to 1,050,000 euros. Sales are expected to double next year without any variation in customer credit terms. Recently, the company encountered problems with credit control. The annual working capital financing rate is 12%. The company has approached a credit institution to enter into a deal to sell its accounts receivable. The agreement presupposes the following terms: The credit institution will pay (advance) 75% of the accounts receivable to the company. The average collection period will be reduced to 120 days. The credit institution will charge the company 14% on what it will pay from the beginning (75% of the accounts receivable). Also, the credit institution will charge annual administrative fees which will amount to 1.25% of sales. The company will save (savings) 25,000 euros per year from the reduction of its staff. Bad payers (to be taken over by the credit institution) are expected to amount to 5% of annual sales. Required: To calculate for the next year whether it is in the interest of the company to proceed with the conclusion of an agreement with the credit institution or to remain with its current credit policy.
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