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UglyDoll Custom Plushies Ltd
UglyDoll Custom Plushies Ltd. has $15 million in credit sales per year and on average they are outstanding for 75 days. Each giant custom plushie sells for $1,000 and results in a 10% contribution margin. Receivables are financed via a line of credit at a 12% interest rate. Bad debts total $350,000 annually. The accounting department has a new plan by which it estimates it can eliminate half of the bad debts and reduce the average collection period to 45 days if it is permitted to hire new collections specialists at a cost $170,000 per year. The new plan would result in 2% lost sales. Consider both the existing and the new credit policy and determine if UglyDoll Custom Plushies would be better off with new plan and if so, by how much? Show all your work.
Expert Solution
| Current Policy | Proposed Policy | Increase/ (Decrease) in EBT | ||
| Sales | $ 15,000,000 | $ 14,700,000 | ||
| Contribution margin [10%] | $ 1,500,000 | $ 1,470,000 | $ (30,000) | |
| Increase in collection costs | $ - | $ 170,000 | $ - | |
| Bad debts | $ 350,000 | $ 175,000 | $ 175,000 | |
| Average collection period in days | 75 | 45 | ||
| Average receivables | $ 3,082,192 | $ 1,812,329 | ||
| Investment in receivables at 90% | $ 2,773,973 | $ 1,631,096 | ||
| Financing cost on investment in AR at 12% | $ 332,877 | $ 195,732 | $ 137,145 | |
| Increase in earnings before taxes [EBT] | $ 282,145 | |||
| As the firm will be better of by $282,145 [before taxes], the firm can implement the change. |
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