QUESTION 3

[12 marks] Pumla Industries Ltd has an average collection period of 45 days: 37 days until the customers place their payment into the mail; and a further 8 days to receive, process and collect payments. The firm is contemplating a change in its credit terms from net 30 to 2/10 net 30. This change is expected to reduce the average collection period to 26 days. The firm currently sales 1 200 units of its product for R2 500 per unit. Its variable cost per unit is R2 000. It estimates that 70% of its customers will take the 2% discount and that offering the discount will increase sales by 50 units per year but will not alter the bad debt percentage for this product. The firms opportunity cost of funds invested in accounts receivable is 13.5% per year.

REQUIRED

3.1 Conduct a cost-benefit analysis to determine whether this firm should implement this cash discount plan and advise management accordingly. (12)