Problem 1

Evaluation of the Different Options in Credit Policy of Akash:

PARTICULARS
Sales
Contribution @40%
Increase in contribution over current level -A
Credit Sales
Average Debtors {(Average Collection Period*Credit Sale)/12}
Increase in Debtors over current level
Cost of funds for additional amount of debtors @20% -B
Credit Administrative Cost
Increase in Credit Administrative Cost over current level -C
Bad Debts
Increase in Bad debts over current level -D

Net Gain/ Loss A-(B+C+D)

CURRENT POSITION 1 MONTH OPTION I 2 MONTHS OPTION II
160.00 215.00 230.00
64.00 86.00 92.00
0.00 22.00 28.00
0.00 215.00 230.00
0.00 17.92 38.33
0.00 17.92 38.33
0.00 3.58 7.67
0.00 1.30 1.50
0.00 1.30 1.50
0.00 5.38 6.90
0.00 5.38 6.90

0.00 11.74 11.93

3 MONTHS OPTION III
240.00
96.00
32.00
240.00
60.00
60.00
12.00
3.00
3.00
12.00
12.00

5.00
Problem 2

Evaluation of Credit to New Customer

PARTICULARS
A Profit on additional sales
Increase in Annual Sales
Less:
Cost of Sales @85%

Less:
Bad Debts Loss (10* on Sales)

Less:
Tax @30%
Net Profit after Tax

B Oppurtunity Cost of Investment in Receivables

Receivables turnover
(12/Collection period)
Average Investment in Receivables
(Cost of Sales / Receivables Turnover)
Oppurtunity Cost of Funds Blocked @ 40%

C Net Benefit/-Loss (A-B)

AMOUNT

1200000

1020000
180000

120000
60000

18000
42000

127500

51000

-9000
Problem 3

Statement showing Evaluation of Credit Policies

Particulars
A. Expected Profit:
(a) Net Credit Sales (Sales units × Rs 40)

(b) Less: Total Cost:

Variable (Sales units × Rs 25)
Fixed Cost (Rs 35 - RS 25 = Rs 10 per unit)

(c) Expected Profit [(a)-(b)]

B. Opportunity Cost of investment in receivables

C. Net Benefits [A-B]

Recommendation:
Proposed Policy should be implemented since the net benefit under this policy are hi

Working Note:

Calculation of Opportunity Cost

Opputunity Cost=

Present Policy=

Proposed Policy=

=
 Present Policy (1 month) Proposed Policy (2 months)

840,000 907,200

525,000 567,000
210,000 210,000
735,000 777,000

105,000 130,200

15,313 32,375

89,688 97,825

e net benefit under this policy are higher than those under present policy

Total Cost * Collection Period * Rate of Return)/12

(735000*1*25)/(12*100)

15313

(777000*2*25)/(12*100)

32375
Problem 4

Particulars

A.

B.

C.
Since the amount of revenue generated from each category of customer is not given in the
question. Let us consider Rs 100 as the amount of revenue generated from each type of
customer. Therefore, Rs 100 shall be taken as the basis for reappraisal of Company’s credit
policy.

Statement showing Evaluation of credit Policies

Particulars

Expected Profit:
(a)       Revenue
(b)       Total Cost other than Bad Debt:
(i) Cost of Goods Sold
(ii) Fixed Cost

(c) Bad Debt

(d) Expected Profit [(a)-(b)-(c)]

Opportunity Cost of Investment in Receivables*

Net Benefits [A-B]

Recommendation:
The reappraisal of company’s credit policy indicates that the company either follows a lenient credit
policy or it is inefficient in collection of debts. Even though the company sells its products on terms
of net 30 days, it allows average collection period for more than 30 to all categories of its
customers.

The company can continue with customers covered in categories 1 and 2 since net benefits are
favourable. The company either should not continue with customer covered in categories 3 and 4
or should reduce the bad debt % by at least 1.48% and 12.96% respectively since net benefits are
unfavourable to the extent of 1.48% and 12.96% of sales respectively. The other factors to be
taken into consideration before changing the present policy includes (i) past performance of the
customers and (ii) their credit worthiness.

Working Note:

Calculation of Opportunity Cost

Opputunity Cost=

For Category 1=
 =

For Category 2=

For Category 3=

For Category 4=

=
 Classification of Customers
1 2 3 4

100 100 100 100

85 85 85 85
5 5 5 5
90 90 90 90
0 2 10 20
10 8 0 -10

1.66 1.55 1.48 2.96

8.34 6.45 -1.48 -12.96

Total Cost * Collection Period * Rate of Return)/365

(90*45*15)/(365*100)
1.66

(90*42*15)/(365*100)

1.55

(90*40*15)/(365*100)

1.48

(90*80*15)/(365*100)

2.96
Problem 5
Analysis of the receivables of Jackson Company by the bank in

1 The Jackson Company’s credit policy is 2/10 net 30

The bank lends 80 per cent on accounts where customers are not cur

From the schedule of receivables of Jackson Company

a Account No. 91 and Account No. 114 are currently overdue
b For Account No. 123 the average payment period exceeds 40 days.
c Hence Account Nos. 91, 114 and 123 are eliminated
d Therefore, the selected Accounts are Account Nos. 74, 107, 108 and 116.

2 Statement showing the calculation of the amount which the ba

Account No. Amount (Rs)

(a)
74 25,000
107 11,500
108 2,300
116 29,000
Total loan amount
y by the bank in order to identify acceptable collateral for a short-term loan:

omers are not currently overdue and where the average payment period does not exceed 10 days pas

ds 40 days.

07, 108 and 116.

unt which the bank will lend on a pledge of receivables if the bank uses a 10 per cent allowa

100%-10% cash discount 80% of amount

90 per cent of amount (Rs) 80% of amount (Rs)
(b)=90% of (a) (c)=80% of (b)
22,500 18,000
10,350 8,280
2,070 1,656
26,100 20,880
mount 48,816
not exceed 10 days past the net period i.e. thirty days.

s a 10 per cent allowances for cash discount and returns

Problem 6

Working Notes:-

Particulars
Average level of Receivables
Factoring Commission
Factoring Reserve
Amount Available for Advance

Factor will deduct his interest @16%

Interest
Advance to be paid

Statement Showing Evaluation of Factoring Proposal

Particulars

A Annual Cost of Factoring to the Firm:

Factoring Commission (Rs 6,000 * 360/90)
Interest Charges (Rs 10,560 * 360/90)
Total

B Firm’s Savings on taking Factoring Service:

Cost of Administration Saved
Cost of Bad Debts (Rs 12,00,000 * 1.5/100) avoided
Total

C Net Benefit to the Firm (Rs 68,000 – Rs 66,240)

Computation Amount
Rs 12,00,000 * 90/360 300,000
3,00,000 * 2/100 6,000
3,00,000 * 10/100 30,000
Rs 3,00,000-(6,000+30,000) 264,000

(264000*16*90)/(100*360) 10560
Rs 264000 - Rs 10560 253,440

Amount in Rs

24,000
42,240
66,240

`
50,000
18,000
68,000

1,760
Problem 7

=
=

=
=
2
Working Notes:-

Particulars
Total Sales
Credit Sales (80%)
Receivables for 40 days
Receivables for 120 days

Average collection period [(40 * 0.5) + (120 * 0.5)]

Average level of Receivables (Rs 1,60,00,000 * 80/360)
Factoring Commission (Rs 35,55,556 * 2/100)
Factoring Reserve (Rs 35,55,556 * 10/100)
Amount available for advance {Rs 35,55,556 - (3,55,556 + 71,111)}

Factor will deduct his interest @ 18% :

Interest = (Rs 3128889 * 18 * 80) / (100 * 360)
Advance to be paid (Rs 31,28,889 – Rs 1,25,156)

Statement Showing Evaluation of Factoring Proposal

Particulars

Annual Cost of Factoring to the Firm:

Factoring Commission (Rs 71,111 * 360/80)
Interest Charges (Rs 1,25,156 * 360/80)
Total

Firm’s Savings on taking Factoring Service:

Cost of Administration Saved
Cost of Bad Debts (Rs 160,00,000 * 1/100) avoided
Total

Net Cost to the Firm (Rs 8,83,200 – Rs 4,00,000)

Effective cost of Factoring

(Rs 483200 * 100)/ Rs 3003733
16.09

* If cost of factoring is calculated on the basis of total amount available for advance, then, it
(Rs 483200 * 100)/ Rs 3128889
15.44
If Bank finance for working capital is available at 14%, firm will not avail factoring service as
 (Rs)
200 lakhs
160 lakhs
80 lakhs
80 lakhs

80 days
3,555,556
71,111
355,556
3,128,889

125,156
3,003,733

Amount in Rs

320,000
563,200
883,200

`
240,000
160,000
400,000

483,200

e for advance, then, it will be

ail factoring service as 14 % is less than 16.08% (or 15.44%)
Problem 8

Working Notes:-

Particulars
Average level of Receivables
Factoring Commission
Factoring Reserve
Amount Available for Advance

Factor will deduct his interest @16%

Interest
Advance to be paid

Statement Showing Evaluation of Factoring Proposal

Particulars

A Annual Cost of Factoring to the Firm:

Factoring Commission (Rs 160,000 * 360/90)
Interest Charges (Rs 316,800 * 360/90)
Total

B Firm’s Savings on taking Factoring Service:

Cost of Administration Saved
Cost of Bad Debts (Rs 320,00,000 * 1.5/100) avoided
Total

C Net Cost to the Firm (Rs 19,07,200 – Rs 9,80,000)

Effective cost of Factoring

= (Rs 927200 * 100)/ Rs 6723200
= 13.79

* If cost of factoring is calculated on the basis of total amount available for ad

= (Rs 927200 * 100)/ Rs 7040000
= 13.17
 Computation Amount
Rs 320,00,000 * 90/360 8,000,000
80,00,000 * 2/100 160,000
80,00,000 * 10/100 800,000
Rs 80,00,000-(160,000+800,000) 7,040,000

(7040000*18*90)/(100*360) 316,800
Rs 7040000 - Rs 316800 6,723,200

Amount in Rs

640,000
1,267,200
1,907,200

`
500,000
480,000
980,000

927,200

amount available for advance, then, it will be

Problem 9

=
If the company does not avail the cash discount and pays the amount after 45 days, the imp

[(100/100-2)^(365/35)]-1

23.50%

Now let us assume that Denim Ltd. can invest the additional cash and can obtain an annual r

Particulars

Payment to supplier

Return from investing Rs 9,800 between day 10 and day 45

(35*9800*25)/(365*100)

Net Cost

Advise:

Thus it is better for the company to refuse the discount, as return on cash retained is more th
s the amount after 45 days, the implied cost of interest per annum would be approximately:

onal cash and can obtain an annual return of 25% and if the amount of invoice is Rs 10,000. The alter

Refuse Discount Accept Discount

10000 9800

235

9765 9800

as return on cash retained is more than the saving on account of discount

oximately:

Rs 10,000. The alternatives are as follows:

Problem 10

=
If the company does not avail the cash discount and pays the amount after 45 days, the imp

[(100/100-5)^(365/40)]-1

59.70%

Now let us assume that Karl Ltd. can invest the additional cash and can obtain an annual retu

Particulars

Payment to supplier

Return from investing Rs 9,400 between day 50 and day 90

(40*9500*30)/(365*100)

Net Cost

Advise:

Thus it is better for the company to accept the discount, as return on cash retained is less th
s the amount after 45 days, the implied cost of interest per annum would be approximately:

al cash and can obtain an annual return of 30% and if the amount of invoice is Rs 10,000. The alterna

Refuse Discount Accept Discount

10000 9500

312

9688 9500

as return on cash retained is less than the saving on account of discount

oximately:

10,000. The alternatives are as follows: