The Boca Grande Company expects to have sales of $10 million this year under its current operating policies. Its variable cost ratio is 80 percent, and its cost of short-term funds is 16 percent. Currently, Boca Grandes credit policy is net 25, but its customers pay on average in 30 days. Boca Grande spends $50,000 per year to collect its credit accounts. It collects all receivables (no bad debts), and its marginal tax rate is 40 percent. All costs associated with the manufacture of the product and with the credit departments operations are paid when the product is sold. The credit manager is considering two alternative proposals for changing Boca Grandes credit policy. Should a change in credit policy be made?

Proposal 1: Lengthen the credit period by going from net 25 to net 30. Collection expenditures will remain constant. Under this proposal, sales are expected to increase by $1 million annually, and the DSO is expected to increase from 30 days to 45 days on all sales.

Proposal 2: Shorten the credit period by going from net 25 to net 20. Again, collection expenses will remain constant. But sales are expected to decrease by $1 million per year, and the DSO is expected to decline from 30 days to 22 days.