Problems in Receivables Management`

Q1. A company is currently selling 100,000 units of its product at Rs 50 each unit. At the current level
of production, the cost per unit is Rs 45, variable cost per unit is Rs 40. The company is currently
extending one month’s credit to its customers. It is thinking of extending credit period to two
months in expectation that sales will increase by 25%. If required rate of return (before-tax) on
firm’s investment is 30%, is the new credit policy desirable?

Q2. A company currently has annual sales of Rs. 500,000 and an average collection period of 30 days.
It is considering a more liberal credit policy. If the credit period is extended, the company expects
sales and bad-debt losses to increase in following manner:

Credit policy Increase in credit Increase in sale (Rs) Bad debts % of total
period sales
A 10 days 25,000 1.2
B 15 35,000 1.5
C 30 40,000 1.8
D 42 50,000 2.2
The selling price per unit is Rs 2. Average cost per unit at the current level of operations is Rs. 1.50
and variable cost per unit is Rs. 1.20. if current bad debt loss is 1% and required rate of return on
investment is 20%, which credit policy should be undertaken? Ignore taxes and assume 360 days in a
year.

Q3. What should be the effect of following changes on level of firm’s receivables:

a) Interest rate increases

b) Recession
c) Production and selling cost increases
d) The firm changes its credit terms from “2/10, net 30” to “3/10, net 30”

Q4. The company has current sales of Rs. 30 crore. To push up sales, the company is considering a
more liberal credit policy. The current average collection period of the company is 25 days. If the
collection period is extended, sales increase in following manner.

Credit policy Increase in collection period Increase in sale (Rs. Lakhs)

(days)
A 15 12
B 25 27
C 35 47
The company is selling its product at Rs. 10 each. Average cost per unit at current level is Rs. 8 and
variable cost per unit Rs. 6. If company’s required rate of return is 12% on its investment then which
credit policy is desirable?

Q5. The credit terms of a firm currently is “net 30”. It is considering to change it to “net 60”. This will
have the effect of increase in firm’s sales. As the firm will not relax credit standards, the bad debt
losses are expected to remain at same percentage, that is, 3% of sales. Incremental production,
selling and collection costs are 80% of sales and expected to remain constant over the range of
anticipated sales increases. The relevant opportunity cost for receivables is 15%. Current credit sales
are Rs. 300 crore and current level of receivables is Rs 30 crore. If credit terms are changed, the
current sale is expected to change to Rs 360 crore and firm’s receivables level will also increase. The
firm’s financial manager estimates that new level of credit terms will cause firm’s collection period
to increase by 30 days.
(i) Determine the present collection period and the collection period after the proposed
change in credit terms.
(ii) What level of receivables is implied by the new collection period?
(iii) Determine the increased investment in receivables if new credit terms are adopted.
(iv) Are new credit terms desirable?