Credit standards, Managerial Accounting

Assignment Help:

This variable deals along with the granting of credit. On one great all the customers are granted credit and conversely, none of them are granted credit irrespective of their credit rating, but in nowadays competitive environment it is impossible. Usually liberal credit standards initiate increased sales accompanied through higher incidence of bad debts, tying of funds in accounts receivable and raised cost of credit collection. Tight or stiff credit standards lead to reduced sales, lower incidence of bad debts, reduced investment in accounts receivable and reduced collection cost.

The quantitative consequence of relaxing the credit standards on profit can be estimated through the equation 1:

? NP = [? S (1 - V ) - ? S bn ](1 - t) - k?I          ............(1)

Here

? NP =          Change in net profit

? S  =          Increase in sales

V     =          Ratio of variable cost to sales

bn    =          Bad debt ratio on new sales

T     =          Tax rate

K     =          Cost of capital

? I   =          raise in receivable investment

 ? I  = (? S/360) . ACP . V

(? S/360) = Average daily change (increase in sales)

 ACP = Average collection period

Here let us see how each element of equation 1 affects net profit. ? S (1-V) shows the raise in gross incremental profit, because of relaxed credit standard and for this reason gross profit, is explained as Sales-Variable cost. ? Sbn computes the bad debts upon incremental sales. The first part of the equation [ ? S (1-V) - ? Sbn] (1-t) shows the post tax operating profit arising from of incremental sales and k ? I measures the post tax opportunity cost of capital locked in extra investment on account of relaxed credit standards. The pre-tax operating profit is multiplied via (1-t) so as to get past tax operating profit.


Related Discussions:- Credit standards

Length of operating or working capital cycle, Change of Technology: Change...

Change of Technology: Changes in technology commonly leads to improvements in the efficient processing of raw material, reduce in wastages, more speedy production and higher produ

Hold-up problem or another problem, According to the Philadelphia Inquirer,...

According to the Philadelphia Inquirer, in 2004 the city of Philadelphia planned to spend $14 million to convert the Convention Center into an appropriate venue for the Republican

Marginal profit or cost, Maximum change in marginal Profit or Cost Just...

Maximum change in marginal Profit or Cost Just as we did in studying the permissible ranges for changes in resources, we are also interested in studying the permissible ranges

The securities and exchange commission (sec), Explain:- Q.1 As a potent...

Explain:- Q.1 As a potential investor, what is the problem with different countries having different accounting standards? As the president of a multinational company, what is

Periodic system and a perpetual system, Your manager has informed you that ...

Your manager has informed you that the company is trying to determine if it should use a periodic system or a perpetual system in accounting for the inventory. He wants you to spea

Describe the method of drawing a break even chart, Describe the method of d...

Describe the method of drawing a break even chart. 1) volume of production/output or sales is plotted on horizontal axis , i. e y - axis . the volume of sales or production ma

Critique of performance measurement, Critique of Performance Measurement ...

Critique of Performance Measurement This section brings together material from preceding data in this lesson in order to provide a critical appraisal of performance measurement

Calculate the standard cost and standard selling of product, Question 1: ...

Question 1: A company's budgeted production of Product Zebra for the month ending 30 November 2004 was 10,000 units. The fixed overheads were budgeted at Rs3,200,000. The st

Explain the various stages of product life cycle, Various stages of product...

Various stages of product life cycle Typically the life cycle of a manufactured product will consist of the following stages: 1) market research : before any investment in

Permanent abandonment of premises, PERMANENT ABANDONMENT OF PREMISES A ...

PERMANENT ABANDONMENT OF PREMISES A company may find it more profitable to concentrate its output in some factories by closing down others.  The decision, in this instance, is

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd