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Wallace Co has annual credit sales of $4,500,000 and an average customer takes 60 days to pay, assuming a 360-day year. As a result, Wallace Co has a trade receivables balance of $750,000. The company relies on an overdraft to finance this at annual interest rate at 10%.
Wallace Co is considering offering an early settlement discount of 1% for payment in 30 days. It expected that 25% of its customers (representing 35% of the annual credit sales figures) will pay in 30 days in order to obtain the discount.
If Wallace Co introduces the proposed discount, what will be the NET impact?
Answer: 2625 cost
Reduction in receivables = 4,500,000 x 30/360 x 35% = 131250
Alternatively: average receivables days will fall to (60 x 0.65) + (30 x 0.35) = 49.5 days which is a reduction of 10.5 days.Please can you explain where 60 x 0.65 and 30 x 0.35 came from?
Thanks
It states that Wallace customers take 60 days to pay in the first paragraph then it says that
Wallace Co is considering offering an early settlement discount of 1% for payment in 30 days. It is expected that 25% of its customers (representing 35% of the annual credit sales figures) will pay in 30 days in order to obtain the discount.So that means 35% or 0.35 of customers take 30 and the rest take 60 which is 0.65 or 65% (bal fig)
WQZ Co is considering making the following changes in the area of receivables management: WQZ Co could introduce an early settlement discount of 1% for customers who pay within 30 days and at the same time, through improved operational procedures, maintain a maximum average payment period of 60 days for credit customers who do not take the discount. It is expected that 25% of credit customers will take the discount if it were offered. It is expected that administration and operating cost savings of #753,000 per year will be made after improving operational procedures and introducing the early settlement discount. Credit sales of WQZ Co are currently #87.6 million per year and trade receivables are currently #18 million. Credit sales are not expected to change as a result of the changes in receivables management. The company has a cost of short- term finance of 5.5% per year.
Required
(a) Calculate and comment on whether the proposed changes in receivables management will be acceptable. Assuming that only 25% of customers take the early settlement discount, what is the maximum early settlement discount that could be offered? (7 marks)
(b) Discuss the factors that should be considered in formulating working capital policy on the management of trade receivables.
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