Table 1. Accounts Receivables Outstanding, December 2013
Days Outstanding Amount
0-10 days 20,000
10 - 20 days 150,000
20- 30 days 400,000
30 - 40 days 650,000
40 - 50 days 430,000
50 - 60 days 350,000
Total A/R 2,000,000
Table 2. New Terms for Cash Discounts
Alternative Terms
1 1/10, net 30
2 2/10, net 30
3 3/10, net 30
Average credit sales remaining at $54,274 per day, the new accounts receivable balance based on the three different cash discount policies.
He also has to free up funds from accounts receivable to be used elsewhere to earn a return of 18 percent.
1. Compute the current average collection period based on the data in Table 1. The midpoint of the second company is 15 days and the category represents 7.5 percent of total accounts receivable ($150,000/$2,000,000). Its value is 1.125 days (15 days x .075). After the process is followed for all six categories, add up the total to get the average collection period.
2. Compute the new average collection period based on the terms in Table 2. Use the simplifying assumption that under the new policies all customers will all pay at the end of the 10th day or the end of the 30th day. i.e., for the 1/10, net 30.
10% x 10 days = 1 day
90% x 30 days = 27 days
28 days average collection period
3. Average daily credit sales remain at $54,274 per day, what will be the new accounts receivable balance based on the three new cash discount policies?
Accounts receivable = average collection period x average daily credit sales
4. Compute the cost of the cash discount based on the three policies under consideration. Recall that total credit sales were $18 million. Multiply total credit sales times the percent that use the discount for each new discount policy times the size of the discount.
5. Compute the amount of freed up funds based on the three different cash discount policies based on the following:
Old accounts receivable (Table 1)
New accounts receivable (Question 3)
Freed up funds