MANAGEMENT ADVISORY SERVICES: RECEIVABLE

RECEIVABLE MANAGEMENT - the formulation and administration of plans and policies

related to sales on account and ensuring the maintenance of
receivables at a predetermined level and their collectability as
planned.
 Credit Policy
 Collection Policy

Ratios affecting Receivables

AR Turnover = Net Credit Sales/ Ave. AR Balance

Collection period = 36x days/ AR Turnover
Ave. AR = [(AR beg. = AR ending)/ 2]
Ave. AR = Ave. Daily Sales x Collection Period

Straight Problems

RELAXATION & CHANGES OF CREDIT TERMS: EFFECT ON ACCOUNTS RECEIVABLE

1. Yellow Company’s budgeted sales for the coming year are P96 million, of which 80%
are expected to be credited sales at terms of n/30. The company estimates that a
proposed relaxation of credit standards would increase credit sales by 30 days to
45 days. Based on a 360-day year, the proposed relaxation of credit standards would
result to an accounts receivable balance of

2. Press Corporation plans to tighten its credit policy. Below is the summary of
changes
OLD NEW
Average number of days collection 75 50
Ratio of credit to total sales 70% 60%

Projected sales for the coming year is P100 million and it was estimated that the
new policy will be a 5% less if the new policy is implemented. Assuming a 360-day
year, what is the effect of the new policy on accounts receivable?

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EFFECTIVE DISCOUNT RATE

3. Assume the following data for Credit Corporation

Credit sales P500,000
Credit terms 2/10, n/30
Nominal discount rate 2%
Credit time 30 days
Free credit days 10 days
Non-free credit days 20 days
Discount amount (P500,000 × 2%) P10,000
Net proceeds (P500,000 – P10,000) P490,000

Determine the effective discount rate.

RELAXATION & CHANGES OF CREDIT TERMS: EFFECT ON PROFITABILITY

4. Mart has sales of P3 million. Its credit period and average collection period are
both 30 days and 1% of its sales end up as bad debts. The general manager intends
to extend the credit period to 45 days which will increase sales by P 300, 000.
However, bad debts losses on the incremental sales would be 3%. Cost of products
and related expenses amount to 40% exclusive of the cost of carrying receivables
of 15% and bad debt expenses.

Assuming 360 days a year, the change in policy would result to incremental
investment in receivables of:
The change in the credit policy would result to increase (decrease) in
incremental profit of:

5. J. Francisco Technologies is considering changing its credit terms from 2/15, net/30
to 3/10, net/30 in order to speed collections. At present, 40% of Francisco’s
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 customers take the 2% discount. Under the new terms, discount customers are expected
to rise to 50%. Regardless of the terms, half of the customers who do not take the
discount are expected to pay on time, whereas the remainder will pay 10 days late.
The change does not involve a relaxation of credit standards; therefore, bad debt
losses are not expected to rise above their present 2% level. However, the more
generous cash discount terms are expected to increase sales from P2,000,000 to
P2,600,000 per year. Francisco’s variable cost ratio is 75%, the interest rate on
funds invested in accounts receivable is 9%, and the firm’s corporate tax rate is
40%.

Requirements:
1. What is the days sales outstanding before and after the change?
2. Calculate the discount costs before and after change
3. Calculate the peso cost of carrying receivables before and after the change.
4. Calculate the bad debt losses before and after the change
5. What is the incremental profit from the change in credit terms? Should
Francisco change its credit terms?

MULTIPLE CHOICE QUESTIONS

1. All of these factors are used in credit policy administration except:

A. credit standards C. peso amount of receivables
B. terms of trade D. collection policy

2. Changing a firm’s credit terms from 2/20, net/60 to 2/10, net/30 will
generally
A. Increase the average collection period and increase sales.

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 B. Increase the average collection period and reduce sales
C. Reduce the average collection period and increase sales.
D. Reduce the average collection period and reduce sales.

3. The primary objective of in the management of accounts receivable is

A. To achieve that combination of sales volume, bad debt experience, and
receivables turnover that maximizes the profits of corporation.
B. To realized no bad debts because of the opportunity cost involved.
C. To provide the treasure of the corporation with sufficient cash to pay
the company’s bills on time.
D. To coordinate the activities of the manufacturing, marketing, and
financing so that the corporation can maximize its profits

4. An increase in a firm’s collection period means

A. The firm’s current ratio is increasing.
B. The firm’s receivable turnover ratio is increasing.
C. The firm’s collection expenses have fallen.
D. The firm has become less efficient n the collection of its receivables.

5. A change in credit policy has caused an increase in sales, an increase in

discount taken, a reduction in the investment in accounts receivable, and
reduction in the number of doubtful accounts. Based upon the information, we
know that
A. Net profit has increase
B. The average collection period has decreased.
C. Gross profit has declined.
D. The size of the discount offered has decreased.

6. LAON Company with P 4.8 million in credit sales per year plans to relax credit
standards, projecting that this will increase credit by P 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?
A. P0 C. P114,000
B. P28,800 D. P120,000

7. Caja Company sells on terms 3/10, net 30. Total sales for the year are P900,000.
Forty percent of the customers pay on the tenth day and take discounts; the
other 60 percent pay, on average, 45 days after their purchases.
What is the average amount of receivables?

A. P70,000 C. P77,200
B. P77,500 D. P67,500

8. Palm Company’s budgeted sales for the coming year are P40,500,000 of which 80%
are expected to be credit sales at terms of n/30. Palm 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 to standards will result in an
expected increase in the average accounts receivable balance of

A. P540,000 C. P2,700,000
B. P900,000 D. P1,620,000

9. The Camp Company has an inventory conversion period of 60 days, a receivable

conversion period of 30 days, and a payable payment period of 45 days. The
Camp’s variable cost ratio is 60 percent and annual fixed costs of P600,000.
The current cost of capital for Camp is 12%.
If Camp’s annual sales are P3,375,000 and all sales are on credit, what is the
firm’s carrying cost on accounts receivable, using 360 days year?

A. P281,250 C. P20,250
B. P168,750 D. P56,250
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10. Mercury distributor sells to retail stores on credit terms of 2/10, net/30.
Daily sales average 150 units at a price of P300 each. Assuming that 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 Mercury’s accounts
receivable is
A. P1,350,000 C. P900,000
B. P990,000 D. P810,000

11.The average collection period for a firm measures the number of days

A. After a typical credit sales is made until the firms receives the
payment.
B. For typical check to “clear” through the banking system
C. Beyond the end of the credit period before a typical customer payment is
received.
D. Before a typical accounts becomes delinquent

12. Currently, La Carlota Company has annual sales of P2,500,000. Its average
collection period is 45 days, and bad debts are 3 percent of sales. The credit
and collection manager is considering instituting a stricter collection policy,
whereby bad debts would be reduced to 1.5 percent of total sales, and the
average collection period would fall to 30 days. However, sales would also
fall by an estimated P300,000 annually. Variable costs are 75 percent of sales
and the cost of carrying receivables is 10 percent. Assume a tax rate of 40
percent and 360 days per year.
What would be the decrease in investment in receivables if the change were
made?

A. P9,688 C. P96,875
B. P12,988 D. P129,975

Question Nos. 13 through 15 are based on the following data:

Sonata Company is considering changing its credit terms from 2/15, net 30 to 3/10,
net 30 in order to speed collections. At present, 40 percent of Sonata Company‘s
customers take the 2 percent discount. Under the new term, discount customers
are expected to rise to 50 percent. Regardless of the credit terms, half of the
customers who do not take the discount are expected to pay on time, whereas the
remainder will pay 10 days late. The change does not involve a relaxation of
credit standards; therefore bad debt losses are not expected to rise above their
present 2 percent level. However, the more generous cash discount terms are
expected to increase sales from P2 million to P2.6 million per year. Sonata
Company’s variable cost ratio is 75 percent, the interest rate on funds invested
in accounts receivable is 9 percent, and the firm’s income tax rate is 40 percent.

13. What are the days sales outstanding (DSO) before and after the change of
credit policy?
A. 27.0 days and 22.5 days C. 22.5 days and 21.5 days,
respectively respectively
B. 22.5 days and 27.0 days, D. 21.5 days and 22.5 days,
respectively respectively

14. The incremental carrying cost on receivable is

A. P843.75 C. P643.75
B. P8,899 D. P6,667

15. The incremental after tax profit from the change in credit terms is
A. P68,493 C. P60,615
B. P64,640 D. P57,615

16.Garo Company, retail store, is considering foregoing sales discounts in order

to delay using its cash. Supplier credit terms are 2/10, net 30. Assuming a
360-day year, what is the annual cost of credit it the cash discount is not
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 taken and Garo pays net 30?
A. 24% C. 36%
B. 24.5% D. 36.7%

17.The high cost of short-term financing
the terms of credit it extends to its
60. If customers can borrow at prime
change its terms of credit in order
collection of receivables?
has recently caused a company to reevaluate
customers. The current policy is 1/10, net
rate, at what prime rate must the company
to avoid an undesirable extension in its

A. 2% C. 7%
B. 5% D. 8%

18.When a company offers credit terms of 2/10, net 30, the annual interest cost,
based on a 360-day year, is

A. 24% C. 35.3%
B. 24.5% D. 36.7%

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