8 Fresh & Fruity Foods, Inc. were discussing the cash flow problem over lunch Fr

Question

8 Fresh & Fruity Foods, Inc. were discussing the cash flow problem over lunch Fresh & Fruity Foods is a mail-order company operating out of a winery near Santa Rosa, California. The company specializes in sending California specialties to catalog customers nationwide. Sales are seasonal, with most occurring in November and December-when people select Fresh & Fruity's Famous Fruit Fantasy boxes as Christmas gifts. Although seasonal, the company's sales are fairly predictable, because the bulk of Fresh & Fruity customers are regulars who come back year after year. The company has also managed to smooth out its sales somewhat by offering incentives, such as the Fruit of the Month club, that encourage customers to buy "You know, Tom," Alice said as she sliced a piece of avocado, "I was reading the other day about a company called Kringle's Candles & Omaments, and it occurred to me that we're a lot like them. Most of our assets are current ones like their accounts receivable and inventory; and over half of ours are financed just like theirs, by current liabilities-that is, accounts payable." She paused for a sip of chardonnay, and continued, They got around their cash flow problems by issuing long-term debt, which took the pressure off their current obligations. I've been looking at that for our company, too; but then I got to thinking, there's another way that's a good deal easier and would produce results just as quickly." throughout the year The nature of the mail-order business is such that most of Fresh & Fruity's sales are on credit; therefore, the company has historically had a high accounts receivable balance relative to sales. It has also historically been short of cash, forcing it to delay payments to suppliers as long as possible (its average time to Oh? What's that?" Tom replied, his interest captured "All we have to do," she said, "is to reduce our accounts receivable balance. That will help reduce our accounts payable balance-since, as our customers begin paying us earlier, we can pay our suppliers earlier in turn. If we could get enough customers to pay us right away, we could even pay some of the suppliers pay accounts in 2010, was 67 days) In January 2011, Tom Appleby and Alice Plummer, the president and treasurer of Fresh & Fruity, respectively Copyright © 2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

Explanation / Answer

a. Average collection period = (Total amount of days in period x Average amount of accounts receivable)/ Total amount of net credit sales during period) Average collection period = 365 x 209686/1179000 64.92 days b. If Fresh & Fruity has been taking 67 days to pay its suppliers, compute the % cost the company is paying for not taking supplier discounts of 2/10, net 60 days Cost of not taking the discount = Discount percent/100 – Discount percent x 365/ Days credit is outstanding – discount period Cost of not taking the discount = {2/(100 – 2)}x{360/(67 – 10)} 12.89% c. Assume a 10% discount is implemented for customers paying with their order, and the company’s average collection period drops to 32 days. If net sales remain the same, how much money would be freed up in reduced accounts receivable? If this money is used to reduce accounts payable, what would be the new balance in accounts payable? Average collection period = (Total amount of days in period x Average amount of accounts receivable)/ Total amount of net credit sales during period 32 days = 360 x Average Accounts Receivables/ $1,179,000 x (1 - 10%) $94,320 Cash freed up by the reduction in accounts receivable = $209686 - $94320 = $115,366 New accounts payable balance if the money is used to pay off suppliers = $180633 - $115366 $65,267 d. Accounts payable = Average Payment period x purchases per day based on net purchases /360 Accounts Payable =( 10 x $969000 x 98% )/360 $26,378.33 Loan to be Taken = $65267 - $26,378.33 $38,888.67 e. Discount Taken = $969000 x 2% $19,380 Interest on loan = $38,888.67 x 8% $3,111.09 Net gain before Tax basis = $19,380 - $3,111.09 $16,268.91 Net gain after Tax basis = ($19,380 - $3,111.09) x (1 - 33%) $10,900.17 f) Amount of Fund on which interest must be paid = $38,888 .67 - $38,888.67 x 8% - $38,888.67 x 20% $27,999.84 Effective Interest rate = $3,111.09/$27,999.84 11.11% The rate of interest has increased from 8% to 11.11% but less than the cost of forgoing the cash discount of 12.89% so it would be better to borrow and take the cash discount.

Related Questions

Navigate

• Browse (All)
• Browse 8
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.