Interest and 90-day Bank Loan

Accounts receivable changes with bad debts A firm is evaluating accounts receivable change that would increase bad debts from 2% to 4% of sales. Sales are currently 50,000 units, the selling price is $20 per unit, and the variable cost per unit is $15. As a result of the proposed change, sales are forecast to increase to 60,000 units.

• a. What are bad debts in dollars currently and under the proposed change?

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• b. Calculate the cost of the marginal bad debts to the firm.
• c. Ignoring the additional profit contribution from increased sales, if the proposed change saves $3,500 and causes no change in the average investment in accounts receivable, would you recommend it? Explain.
• d. Considering all changes in costs and benefits, would you recommend the proposed change? Explain.
• e. Compare and discuss your answers in parts c and d.

P14-16

Zero-balance account Union Company is considering the establishment of a zero balance account. The firm currently maintains an average balance of $420,000 in its disbursement account. As compensation to the bank for maintaining the zero balance account, the firm will have to pay a monthly fee of $1,000 and maintain a $300,000 non–interest-earning deposit in the bank. The firm currently has no other deposits in the bank. Evaluate the proposed zero-balance account, and make a recommendation to the firm, assuming that it has a 12% opportunity cost.

P15–9

Cost of bank loan Data Back-Up Systems has obtained a $10,000, 90-day bank loan at an annual interest rate of 15%, payable at maturity. (Note: Assume a 365-day year).

• a. How much interest (in dollars) will the firm pay on the 90-day loan?
• b. Find the effective 90-day rate on the loan.
• c. Annualize your result in part b to find the effective annual rate for this loan, assuming that it is rolled over every 90 days throughout the year under the same terms and circumstances.

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