A company with annual sales of $22,000,000 is considering changing its payment terms from net 40 to net 30 to encourage customers to pay more promptly. The company forecasts that customers would respond by paying on day 30 rather than day 45 as at present (assume a 360 day year) but would decrease their purchases by $400,000 per year. The company also forecasts that its idle cash balance would decrease by $100,000 and administrative costs would be reduced by $50,000 per year. The company's variable costs average 65% of sales, it is in the 35% marginal tax bracket, and it has a 12% cost of capital.
Part A: Calculate the incremental cash flows from accepting this proposal
Part B: Organize your cash flows from part A into a cash flow spreadsheet.
Part C: Calculate the proposal's NPV, IRR, and NAB.
Part D: Should the company shorten its payment terms?
Tenure, depreciation, and escalation cost are not included in the problem. What is included by the professor is the check figures for the chapter in the book. For this problem the answers given are-
Part A- Time Zero Investment in A/R $617,500
Part B- Years 1 through infinity net annual cash flow ($58,500)
Part C- NPV $545,000