Question

Cash management Knox, Inc., is a nationwide distributor of furniture hardware. The company now uses a central billing system for credit sales of $180 million annually. First National, Knox's principal bank, offers to establish a new concentration banking system for a flat fee of $100,000 per year. The bank estimates that mailing and collection time can be reduced by three days. (40 ptos)

Answer:

(a) By how much will Knox's cash balances be increased under the new system?

(b) How much extra interest income will the new system generate if the extra funds are used to reduce borrowing under Knox's line of credit with First National? Assume that the borrowing rate is 12%.

(c) Finally, should Knox accept First National's offer if collection costs under the old system are $40,000 per year?

Answer 1

Solution:-

A. To Calculate Knox's cash balances be increased under the new system-

Recievable Turnover ratio =

Collection Period =

Let Collection period is X.

Current Receviable =

After establishing the banking system, the revised receviable will be-

Revised Receviable =

Decrease in Receviable = Current receviable - revised Receviable

Decrease in Receviable = -

Decrease in Receviable = $14,79,452.05

Increase in cash balance due to decrease in Receviable = $14,79,452.05

Decrease in cash balance due to fee of banking system = $1,00,000

Net Increase in cash balance = $14,79,452.05 - $1,00,000

Net Increase in cash balance = $13,79,452.05

B. To calculate extra interest income will the new system generate if the extra funds are used to reduce borrowing under Knox's line of credit with First National -

Extra Income that the new system will generate = $13,79,452.05 * 12%

Extra Income that the new system will generate = $1,65,534.25

C.  Knox accept First National's offer if collection costs under the old system are $40,000 per year-

Total cost of old system = $1,65,534.25 + $40,000

Total cost of old system = $2,05,534.25

If you have any query related to question then feel free to ask me in a comment.Thanks.