Solarius Trading Company is considering lengthening its credit period from 30 to 60 days. All customers will continue to pay on the net date. The firm currently has $600,000 of sales per year, but believes that as a result of the proposed change, sales will increase to $660,000. Bad debt expense will increase from 2% to 4% of sales. The variable cost is 70% of sales. The firm has a cost of capital of 12%. Assume a 360-day year.
1. What is the incremental cost of investment in accounts receivable?
2. What is the incremental cost of the bad debts?
3. Shall Solarius make this change in credit terms? Why or why not?