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

Registered pension plan, How much would each be required to contribute to t...

How much would each be required to contribute to the QPP in 2011 based on their $70,000 salaries?   Please show your calculations. How much pension income would each have receiv

Decision making process, Decision Making Process Decision making is the...

Decision Making Process Decision making is the process of choosing among alternatives. There are 7 steps that should be followed as shown in figure below:   Figure:

What are the disadvantages of standard costing, Disadvantages of standard c...

Disadvantages of standard costing 1) Difficulty in setting standards: setting of standards in practice extremely difficult and complicated task. First it is not possible to f

Explain the investment versus speculation, Explain the Investment versus Sp...

Explain the Investment versus Speculation? In brief describes the following terms: a) Investment versus Speculation. b) Active and Passive Equity Management c) Systematic v

What is scientific standards and variance analysis, What is  Scientific st...

What is  Scientific standards and Variance analysis The important steps of standard costing as described above may be summarized as follows; 1) Scientific standards: stand

Human behavior and budgetary control, Human behavior and budgetary control ...

Human behavior and budgetary control An important feature of control in business is that control is exercised by managers over people. Their attitudes and response to budgetary

Doug, based on your assumptions, calculate the cost per unit (total product...

based on your assumptions, calculate the cost per unit (total product cost on a per unit basis) under a traditional accounting system based on direct labor hours (table 1 prepared

Multiple products, differentiate between multiple product , selling cots an...

differentiate between multiple product , selling cots and margin management

CH 7, Hickory Company manufactures two products—14,000 units of Product Y a...

Hickory Company manufactures two products—14,000 units of Product Y and 6,000 units of Product Z. The company uses a plantwide overhead rate based on direct labor-hours. It is cons

Ilustrate the debt equity ratio, Debt equity ratio Meaning: this rati...

Debt equity ratio Meaning: this ratio establishes a relationship among long term debts and share holders funds. Objective: the objective of computing this ratio is to me

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