Use the following information to answer the next six questions: Regency Rug Repair Company is trying...

Use the following information to answer the next six questions:

Regency Rug Repair Company is trying to decide whether it should relax its credit standards. The firm repairs 72,000 rugs per year at an average price of $132 each. Bad-debt expenses are 1% of sales, the average collection period is 40 days, and the variable cost per unit is $28. Regency expects that if it does relax its credit standards, the average collection period will increase to 48 days and that bad debts will increase to 1½% of sales. Sales will increase by 4,000 repairs per year. The opportunity cost of funds is 14%.

7. Use the Income Statement Approach to find the incremental bad debt losses.

8. Use the Income Statement Approach to find the incremental cost of carrying receivables.

9. Use the Income Statement Approach to find the incremental pre-tax profits from this proposal.

10. Use the Incremental Analysis Approach to find the incremental bad debt losses.

11. Use the Incremental Analysis Approach to find the incremental cost of carrying receivables.

12. Use the Incremental Analysis Approach to find the incremental pre-tax profits from this proposal.

Expert Solution

Income statement approach	Old credit	Relaxed credit	Increment
Repair revenue	9504000	10032000	528000
7..Bad debts losses	95040	150480	55440
Av. Collection period	40	48	8
So, Receivables(Repair Revenue/365*Av. Collecn.pd.))	1041534	1319277	277742
8..Opportunity Cost of carrying receivables(*14%)	145815	184699	38884
9..Pre-tax profits
((132-28)*72000)-95040=	7392960
((132-28)*76000)-150480=		7753520	360560

Incremental approach
10..Incl.Bad debt losses
((4000132)1.5%)+(720001320.5%)=	55440

11..Incl.cost of carrying receivables
8 days' incl. credit for old	(72000132)8/365)=	208307
48 days' credit for incl. sales	(4000132)48/365))=	69436
Total incl.receivables o/s		277742
Opportunity cost of funds		14%
Incl.cost of carrying receivables		38884

12...Incl.pre-tax profit
Incremental revenue
(132-28)*4000=	416000
Less: Incl.bad debt losses(as above)	-55440
Incl.pre-tax profit	360560

ekkarill92 answered 1 year ago

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