Chapter 15, Problem 65P

1.

To determine

Calculate the accounts receivable turnover in times for each of the 5 years. Also, calculate the accounts receivable turnover in days.

Explanation of Solution

Profitability Ratio:

These ratios evaluate a firm’s ability to earn profits. They help the stakeholders of the company to measure the degree to which funds invested by them are efficiently used. Some of the ratios calculated return on sales, total assets and stockholder’s equity.

Use the following formula to calculate the value of accounts receivable turnover in times for year 20X2:

$\text{Accounts Receivable Turnover in Times}=\frac{\text{Net Sales}}{{\text{Average Receivable}}^{\text{1}}}$

Substitute $500,000 for net sales and $100,000 for average receivable in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Times}=\frac{\text{\$500,000}}{\text{\$100,000 }}\\ =5\text{ times}\end{array}$

Therefore, the value of accounts receivable turnover in times is 5 times.

Use the following formula to calculate the value of accounts receivable turnover in days for year 20X2:

$\text{Accounts Receivable Turnover in Days}=\frac{\text{Days in a Year}}{\text{Accounts Receivable Turnover Ratio }}$

Substitute 365 days for days in a year and 5.00 times for average accounts receivable turnover in days in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Days}=\frac{\text{365 Days}}{\text{5}\text{.00 times }}\\ =73.00\text{ days}\end{array}$

Therefore, the value of accounts receivable turnover in days is 73.00 days.

Use the following formula to calculate the value of accounts receivable turnover in times for year 20X3:

$\text{Accounts Receivable Turnover in Times}=\frac{\text{Net Sales}}{{\text{Average Receivable}}^{\text{2}}}$

Substitute $600,000 for net sales and $110,000 for average receivable in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Times}=\frac{\text{\$600,000}}{\text{\$110,000 }}\\ =5.45\text{ times}\end{array}$

Therefore, the value of accounts receivable turnover in times is 5.45 times.

Use the following formula to calculate the value of accounts receivable turnover in days for year 20X3:

$\text{Accounts Receivable Turnover in Days}=\frac{\text{Days in a Year}}{\text{Accounts Receivable Turnover Ratio }}$

Substitute 365 days for days in a year and 5.45 times for average accounts receivable turnover in days in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Days}=\frac{\text{365 Days}}{\text{5}\text{.45 times }}\\ =66.97\text{ days}\end{array}$

Therefore, the value of accounts receivable turnover in days is 66.97 days.

Use the following formula to calculate the value of accounts receivable turnover in times for year 20X4:

$\text{Accounts Receivable Turnover in Times}=\frac{\text{Net Sales}}{{\text{Average Receivable}}^{\text{3}}}$

Substitute $510,000 for net sales and $110,000 for average receivable in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Times}=\frac{\text{\$510,000}}{\text{\$110,000 }}\\ =4.64\text{ times}\end{array}$

Therefore, the value of accounts receivable turnover in times is 4.64 times.

Use the following formula to calculate the value of accounts receivable turnover in days for year 20X4:

$\text{Accounts Receivable Turnover in Days}=\frac{\text{Days in a Year}}{\text{Accounts Receivable Turnover Ratio }}$

Substitute 365 days for days in a year and 4.64 times for average accounts receivable turnover in days in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Days}=\frac{\text{365 days}}{\text{4}\text{.64 times }}\\ =78.66\text{ days}\end{array}$

Therefore, the value of accounts receivable turnover in days is 78.66 days.

Use the following formula to calculate the value of accounts receivable turnover in times for year 20X5:

$\text{Accounts Receivable Turnover in Times}=\frac{\text{Net Sales}}{{\text{Average Receivable}}^{\text{4}}}$

Substitute $510,000 for net sales and $125,000 for average receivable in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Times}=\frac{\text{\$510,000}}{\text{\$125,000 }}\\ =4.08\text{ times}\end{array}$

Therefore, the value of accounts receivable turnover in times is 4.08 times.

Use the following formula to calculate the value of accounts receivable turnover in days for year 20X5:

$\text{Accounts Receivable Turnover in Days}=\frac{\text{Days in a Year}}{\text{Accounts Receivable Turnover Ratio }}$

Substitute 365 days for days in a year and 4.08 times for average accounts receivable turnover in days in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Days}=\frac{\text{365 days}}{\text{4}\text{.08 times }}\\ =89.46\text{ days}\end{array}$

Therefore, the value of accounts receivable turnover in days is 89.46 days.

Use the following formula to calculate the value of accounts receivable turnover in times for year 20X6:

$\text{Accounts Receivable Turnover in Times}=\frac{\text{Net Sales}}{{\text{Average Receivable}}^{\text{5}}}$

Substitute $520,000 for net sales and $170,000 for average receivable in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Times}=\frac{\text{\$520,000}}{\text{\$170,000 }}\\ =3.06\text{ times}\end{array}$

Therefore, the value of accounts receivable turnover in times is 3.06 times.

Use the following formula to calculate the value of accounts receivable turnover in days for year 20X6:

$\text{Accounts Receivable Turnover in Days}=\frac{\text{Days in a Year}}{\text{Accounts Receivable Turnover Ratio }}$

Substitute 365 days for days in a year and 3.06 times for average accounts receivable turnover in days in the above formula.

$\begin{array}{c}\text{Accounts Receivable Turnover in Days}=\frac{\text{365 days}}{\text{3}\text{.06 times }}\\ =119.28\text{ days}\end{array}$

Therefore, the value of accounts receivable turnover in days is 119.28 days.

Working Note:

1. Calculation of average receivable:

$\begin{array}{c}\text{Average Accounts Receivable}=\frac{\text{Beginning Receivable}+\text{Ending Receivable}}{\text{2}}\\ =\frac{\$100,000+\$100,000}{2}\\ =\$100,000\end{array}$

2. Calculation of average receivable:

$\begin{array}{c}\text{Average Accounts Receivable}=\frac{\text{Beginning Receivable}+\text{Ending Receivable}}{\text{2}}\\ =\frac{\$100,000+\$120,000}{2}\\ =\$110,000\end{array}$

3. Calculation of average receivable:

$\begin{array}{c}\text{Average Accounts Receivable}=\frac{\text{Beginning Receivable}+\text{Ending Receivable}}{\text{2}}\\ =\frac{\$120,000+\$100,000}{2}\\ =\$110,000\end{array}$

4. Calculation of average receivable:

$\begin{array}{c}\text{Average Accounts Receivable}=\frac{\text{Beginning Receivable}+\text{Ending Receivable}}{\text{2}}\\ =\frac{\$100,000+\$150,000}{2}\\ =\$125,000\end{array}$

5. Calculation of average receivable:

$\begin{array}{c}\text{Average Accounts Receivable}=\frac{\text{Beginning Receivable}+\text{Ending Receivable}}{\text{2}}\\ =\frac{\$150,000+\$190,000}{2}\\ =\$170,000\end{array}$

2.

To determine

Explain the effect of the new credit policy with the help of above calculations.

Explanation of Solution

Accounts receivable turnover decreased due to new credit policy because customers have 60 days to make full payment. As a result, it reduced the inflow of cash in the company. It also led to a shortage of cash due to which the company is unable to meet its short term requirements.

3.

To determine

Identify whether TP would have liberalized his company’s credit policy if it was known that industrial average was 6 times.

Explanation of Solution

TP would not have liberalized the company’s credit policy if industrial average was known as accounts receivable turnover was already low as compared to the industry average.