You are the chief accountant for ZM Corp., which is located in Illinois. In Nove

Question

You are the chief accountant for ZM Corp., which is located in Illinois. In November 2017, that state had the second highest unemployment rate in the Midwest: 4.9% (down from 6.1% in January 2015).1 For the past few years, you have noticed that the company’s bad debt rate has been about 7% of year-end accounts receivable. That rate of bad debts has severely affected the company’s profitability…especially since management has steadily been lowering the standards for granting credit to customers.

Your salary structure (as well as that of other corporate managers) allows for a bonus when net income is equal to or greater than a specific percentage of net sales. Unfortunately, that profit metric has not been reached in four years. However, the CEO and CFO (who is retiring after the first quarter of 2018) realized that a change in the bad debts percentage would allow them and you to obtain bonuses in 2017. If bad debts were computed at 2% of year-end A/R rather than 7%, everyone would receive a reasonable (but not extreme) bonus for 2017. The CEO justifies the use of that rate by concluding that, since unemployment in Illinois has been decreasing over the past few years, so will bad debts.

Provide at least two alternatives to help improve the company’s profit performance.

Explanation / Answer

Alternatives to help improve the company's performance:

1. Company is lowering the standards for granting credit to customers. It may be the reason that the bad debt rate is not decreasing. The company needs to look into creating better credit facility to its customers so that they will be able to pay more easily and will help reduce the bad debts rate. The company can look to give instant cash discounts, etc. to increase revenue and hence profitability.

2. Another method is Factoring. Bad debts have been at 7% for quite sometime now. Company can sell the invoices and get most of the money in lumpsum. After that, factor works on collecting the money from the customers. Once the money is collected, factor deposits the money and gives the remaining balance to the company after deducting a specified fees for the services. The company may opt for recource or non-recourse factoring.

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