Saccomanno Industries, Inc., is considering whether to discontinue offering credit to customers who are more than 10 days overdue on repaying the credit extended to them. Current annual credit sales are $10 million on credit terms of "net 30."
Such a change in policy is expected to reduce sales by 10 percent, cut the firm's bad-debt losses from 5 to 3 percent, and reduce its average collection period from 72 days to 45 days.
The firm's variable cost ratio is 0.70 and its required pretax return on receivables and inventory investments is 25 percent. Because of the anticipated decrease in sales, the company expects its inventories to decrease by $200,000. Determine the net effect of this credit-tightening policy on the pretax profits of Saccomanno Industries.