Q2) A company is evaluating the extension of credit to a new group of customers.
Although these customers will provide $180,000 in additional credit sales, 12% are likely
to be uncollectible. The company will also incur $16,200 in additional collection
expense. Production and marketing costs represent 72% of sales. The firm is in a 34% tax
bracket and has a receivables turnover of four times. No other asset buildup will be
required to service the new customers. The firm has a 10% desired return.
has a
a. Calculate the incremental income after taxes and the return on incremental
investment. Should the company extend credit to these customers?
b. Based on the income level determined in (a), should credit be extended if an
additional investment in inventory is considered? Assume an inventory turnover
of 1.6 times.