Accounts Receivable Management Quiz Financial Accounting Quiz On Oct 16, 2024 Share /18 123456789101112131415161718 Accounts Receivable Management 18 questions in 30 minutes Pass Score 70% 1 / 18 When a company analyzes credit applicants and increases the quality of the accounts rejected, the company is attempting to : Increase bad-debt losses Maximize sales Maximize profits Increase the average collection period Increasing the quality of the accounts rejected means that fewer sales will be made. The company is therefore not trying to maximize its sales or increase its bad debt losses. The objective is to reduce bad debt losses and thereby maximize profits. 2 / 18 A company’s budgeted sales for the coming year are $40,500,000, of which 80% are expected to be credit sales at terms of n/30. The company estimates that a proposed relaxation of credit standards will increase credit sales by 20% and increase the average collection period from 30 days to 40 days. Based on a 360-day year, the proposed relaxation of credit standards will result in an expected increase in the average accounts receivable balance of : $540,000 $900,000 $2,700,000 $1,620,000 Projected credit sales for the year under the old credit policy were $32,400,000 ($40,500,000 × 80%). The projected average balance in receivables was therefore $2,700,000 [$32,400,000 × (30 days ÷ 360 days)]. Under the new policy, projected credit sales will be $38,880,000 ($32,400,000 × 1.2), resulting in a new average receivables balance of $4,320,000 [$38,880,000 × (40 days ÷ 360 days)]. Hence, the expected increase in the balance is $1,620,000 ($4,320,000 – $2,700,000). 3 / 18 A firm sells to retail stores on credit terms of 2/10, net 30. Daily sales average 150 units at a price of $300 each. All sales are on credit and 60% of customers take the discount and pay on day 10 while the rest of the customers pay on day 30. The amount of the firm’s accounts receivable that is paid within the discount period is $900,000 $990,000 $810,000 $1,350,000 The firm has daily sales of $45,000 consisting of 150 units at $300 each. For 30 days, sales total $1,350,000. Of these sales, 40%, or $540,000 ($1,350,000 × 40%), will be uncollected because customers do not take their discounts. The remaining $810,000 ($1,350,000 × 60%) will be paid within the discount period. 4 / 18 A firm that often factors its accounts receivable has an agreement with its finance company that requires the firm to maintain a 6% reserve and charges a 1.4% commission on the amount of the receivables. The net proceeds would be further reduced by an annual interest charge of 15% on the monies advanced. Assuming a 360-day year, what amount of cash (rounded to the nearest dollar) will the firm receive from the finance company at the time a $100,000 account that is due in 60 days is turned over to the finance company? $96,135 $90,285 $85,000 $92,600 The first step is to calculate the gross proceeds the firm will receive from the factoring transaction: Amount of receivable $100,000 Less: reserve ($100,000 × 6%)= (6,000) Less: factor fee ($100,000 × 1.4%) =(1,400) = Gross proceeds $ 92,600 This amount must be reduced by the interest charged on the gross proceeds: Gross proceeds $92,600 Times: annual finance charge × 15% Annualized interest expense $13,890 Times: portion of year (60 days ÷ 360 days) × 16.7% Interest expense $ 2,315 The actual cash the firm will receive from this factoring transaction is thus calculated as follows: Gross proceeds $92,600 Less: interest expense (2,315) Net proceeds $90,285 5 / 18 An aging of accounts receivable measures the : Average length of time that receivables have been outstanding Amount of receivables that have been outstanding for given lengths of time Percentage of sales that have been collected after a given time period Ability of the firm to meet short-term obligations The purpose of an aging of receivables is to classify receivables by due date. Those that are current (not past due) are listed in one column, those less than 30 days past due in another column, etc. The amount in each category can then be multiplied by an estimated bad debt percentage that is based on a company’s credit experience and other factors. The theory is that the oldest receivables are the least likely to be collectible. Aging the receivables and estimating the uncollectible amounts is one method of arriving at the appropriate balance sheet valuation of the accounts receivable account. 6 / 18 A company is considering a change in its credit terms from n/30 to 2/10, n/30. The company’s budgeted sales for the coming year are $24,000,000, of which 90% are expected to be made on credit. If the new credit terms are adopted, the company estimates that discounts will be taken on 50% of the credit sales; however, uncollectible accounts will be unchanged. The new credit terms will result in expected discounts taken in the coming year of $432,000 $240,000 $216,000 $480,000 The company can calculate expected discounts taken under the new credit policy as follows: Total sales $24,000,000 Times: percentage on credit × 90% = Credit sales $21,600,000 Times: subject to discount × 50% = Sales subject to discount $10,800,000 Times: discount percentage × 2% = Expected discounts taken $ 216,000 7 / 18 An organization would usually offer credit terms of 2/10, net 30 when : Most competitors are offering the same terms, and the organization has a shortage of cash he organization can borrow funds at a rate exceeding the annual interest cost The cost of capital approaches the prime rate The organization can borrow funds at a rate less than the annual interest cost Because these terms involve an annual interest cost of over 36%, a company would not offer them unless it desperately needed cash. Also, credit terms are typically somewhat standardized within an industry. Thus, if most companies in the industry offer similar terms, a firm will likely be forced to match the competition or lose market share. 8 / 18 A company with $4.8 million in credit sales per year plans to relax its credit standards, projecting that this will increase credit sales by $720,000. The company’s average collection period for new customers is expected to be 75 days, and the payment behavior of the existing customers is not expected to change. Variable costs are 80% of sales. The firm’s opportunity cost is 20% before taxes. Assuming a 360-day year, what is the company’s benefit (loss) on the planned change in credit terms? $0 $28,800 $144,000 $120,000 The company can calculate the net benefit (loss) from the proposed change in credit policy as follows: Increase in sales $720,000 Times: variable cost ratio × 80% Increase in variable costs $576,000 Increased investment in receivables = $576,000 × (75 days ÷ 360 days) = $120,000 Increased investment in receivables $120,000 Times: opportunity cost of funds × 20% Cost of new credit plan $ 24,000 Increase in sales $720,000 Times: contribution margin ratio × 20% Increase in contribution margin $144,000 Less: cost of new credit plan (24,000) Benefit of new credit plan $120,000 9 / 18 A company believes that its collection costs could be reduced through modification of collection procedures. This action is expected to result in a lengthening of the average collection period from 28 days to 34 days; however, there will be no change in uncollectible accounts. The company’s budgeted credit sales for the coming year are $27,000,000, and short-term interest rates are expected to average 8%. To make the changes in collection procedures cost beneficial, the minimum savings in collection costs (using a 360-day year) for the coming year would have to be : $360,000 $30,000 $180,000 $36,000 If the change is adopted, the company’s average balance in receivables will increase by $450,000 {$27,000,000 × [(34 days – 28 days) ÷ 360 days]}. The minimum savings that Best must experience to justify the change is therefore $36,000 ($450,000 × 8%) 10 / 18 The cash manager for a large kitchen appliance retailer has been approached by a bank representative offering to set up a lock-box collection system. Analysis of the firm’s receipts shows that, on average, the system will reduce collection time by 2 days. The firm receives approximately 2,500 checks per day with an average value of $600 per check. The bank would charge $0.28 per check for operating the system. The firm currently invests short-term funds at an average rate of 7%. How much would the firm gain or lose annually by entering the lock-box agreement? $45,500 $(150,500) $210,000 $(45,500) The additional annual income (loss) from using the lockbox service is the excess (deficit) of interest earned on the early deposits over (under) the cost of the service. If the plan is adopted, the firm’s average cash balance will increase by $3,000,000 ($600 value per check × 2,500 checks received per day × 2 days). Benefit (loss) = Interest earned – Cost. Thus, the loss of $45,500 is calculated from the interest earned of $210,000 ($3,000,000 × 7%) minus the cost of $255,500 ($0.28 per check × 2,500 checks per day × 365 days in a year) 11 / 18 A maker of bowling gloves is investigating the possibility of liberalizing its credit policy. Currently, payment is made on a cash-on-delivery basis. Under a new program, sales would increase by $80,000. The company has a gross profit margin of 40%. The estimated bad debt loss rate on the incremental sales would be 6%. Ignoring the cost of money, what would be the return on sales before taxes for the new sales? 34.0% 36.2% 42.5% 40.0% The increase in estimated gross profit is $32,000 ($80,000 × 40%). The incremental bad debt loss is $4,800 ($80,000 × 6%). Accordingly, the estimated net increase in operating income is $27,200 ($32,000 – $4,800). The before-tax return on sales is 34% ($27,200 ÷ $80,000). 12 / 18 An established firm sells computer hardware, software, and services. The firm is considering a change in its credit policy. It has been determined that such a change would not change the payment patterns of the current customers. To determine whether such a change would be beneficial, the firm has identified the proposed new credit terms, the expected additional sales, the expected contribution margin on the sales, the expected bad debt losses, and the investment in additional receivables and the period of the investment. What additional information, if any, does the firm require to determinethe profitability of the proposed new policy as compared to the current credit policy? The opportunity cost of funds The new credit standards The credit standards that presently exist No additional information is needed Opportunity cost is the maximum benefit forgone by choosing an investment. Thus, the missing relevant information is the best alternative return on the funds to be invested in receivables. 13 / 18 ELG, Inc., grants credit terms of 1/15, net 30 and projects gross credit sales for the year of $2,000,000. The credit manager estimates that 40% of customers pay on the 15th day, 40% on the 30th day, and 20% on the 45th day. Assuming uniform sales and a 360-day year, what is the projected amount of overdue receivables? $400,000 $16,667 $150,000 $50,000 The total amount of sales overdue at any time during the year is $400,000 ($2,000,000 gross credit sales × 20% received after 30 days). The average collection period for these sales is 45 days. The projected amount of overdue receivables is therefore $50,000 [$400,000 × (45 days ÷ 360 days)]. 14 / 18 Which of the following represents a firm’s average gross receivables balance? A - Days’ sales in receivables × accounts receivable turnover. B - Average daily sales × average collection period. C - Net sales ÷ average gross receivables. A only A and B only B and C only B only A firm’s average gross receivables balance can be calculated by multiplying average daily sales by the average collection period (days’sales outstanding). lternatively, annual credit sales can be divided by the accounts-receivable turnover (net credit sales ÷ average accounts receivable) to obtain the average balance in receivables. 15 / 18 The following information regards a change in credit policy. The company has a required rate of return of 10% and a variable cost ratio of 60%. Old Credit Policy New Credit Policy Sales $3,600,000 $3,960,000 Average collection period 30 days 36 days The pre-tax cost of carrying the additional investment in receivables, using a 360-day year, would be : $5,760 $960 $8,160 $9,600 The projected average balance in receivables under the old policy was $300,000 [$3,600,000 × (30 days ÷ 360 days)]. Under the new policy, the average balance will be $396,000 [$3,960,000 × (36 days ÷ 360 days)]. Hence, the average balance is $96,000 higher under the new policy ($396,000 – $300,000). The pre-tax cost of carrying the additional investment in receivables can be calculated as follows: Increased investment in receivables -- gross = $96,000 Times: variable cost ratio × 60% Increased investment in receivables -- net =$57,600 Times: opportunity cost of funds × 10% Incremental cost of new credit plan = $ 5,760 16 / 18 The one item listed below that would warrant the least amount of consideration in credit and collection policy decisions is the : Quantity discount given Cash discount given Level of collection expenditures Quality of accounts accepted A quantity discount is an attempt to increase sales by reducing the unit price on bulk purchases. It concerns only the price term of an agreement, not the credit term, and thus is unrelated to credit and collection policy. 17 / 18 A company plans to tighten its credit policy. The new policy will decrease the average number of days in collection from 75 to 50 days and will reduce the ratio of credit sales to total revenue from 70% to 60%. The company estimates that projected sales will be 5% less if the proposed new credit policy is implemented. If projected sales for the coming year are $50 million, calculate the dollar impact on accounts receivable of this proposed change in credit policy. Assume a 360-day year. $3,819,445 decrease $18,749,778 increase $6,500,000 decrease $3,333,334 decrease Projected credit sales for the year under the old credit policy were $35 million ($50,000,000 × 70%). The level of average receivables was calculated as follows: Receivables turnover = Days in year ÷ Average collection period = 360 days ÷ 75 days = 4.8 times per year Average receivables= Net credit sales ÷ Receivables turnover = $35,000,000 ÷ 4.8 times = $7,291,667 Under the new policy, total sales will be $47.5 million ($50,000,000 × 95%), and credit sales will be $28.5 million ($47,500,000 × 60%). The new level of average receivables is calculated as follows: Receivables turnover = Days in year ÷ Average collection period = 360 days ÷ 50 days = 7.2 times per year Average receivables = Net credit sales ÷ Receivables turnover = $28,500,000 ÷ 7.2 times = $3,958,333 The average receivables balance will therefore be reduced by $3,333,334 ($7,291,667 – $3,958,333). 18 / 18 A company can increase annual sales by $150,000 if it sells to a new, riskier group of customers. The uncollectible accounts expense is expected to be 16% of sales, and collection costs will be 4%. The company’s manufacturing and selling expenses are 75% of sales, and its effective tax rate is 38%. If the company accepts this opportunity, its after-tax income will increase by : $4,650 $2,850 $8,370 $7,500 The company’s manufacturing and selling costs exclusive of bad debts equal 75% of sales. Hence, the gross profit on the $150,000 increase in sales will be $37,500 ($150,000 × 25%). The increase in after-tax profit is calculated as follows: Increase in gross profit = $37,500 Less: uncollectible accounts ($150,000 × 16%) = (24,000) Less: collection costs ($150,000 × 4%) = (6,000) Increase in pre-tax income = $ 7,500 Less: income tax expense = ($7,500 × 38%) = (2,850) Increase in after-tax income= $ 4,650 Your score is LinkedIn Facebook Twitter VKontakte 0% Send feedback Accounts Receivable and Bad Debts Expense (Practice Quiz)Accounts receivable Intermediate accounting QuizAccounts Receivable Management Quiz
