Question

Johnson Electronics is considering extending trade credit to some customers previously considered poor risks. Sales would increase by \(150,000 if credit is extended to these new customers. Of the new accounts receivable generated, 5 percent will prove to be uncollectible. Additional collection costs will be 2 percent of sales, and production and selling costs will be 74 percent of sales. The firm is in the 35 percent tax bracket.

Assume that Henderson also needs to increase its level of inventory to support new sales and that inventory turnover is two times.

d. What would be the total incremental investment in accounts receivable and inventory to support a \)65,000 increase in sales?

Short answer

The total incremental investment in accounts receivables is $48,750.

Step-by-step solution

Calculation of investment in inventory

The investment in inventory is $32,500.

$\begin{array}{rcl}\mathrm{Investment}\mathrm{in}\mathrm{inventory}& =& \frac{\mathrm{Increase}\mathrm{in}\mathrm{sales}}{\mathrm{Inventory}\mathrm{turnover}}\\ & =& \frac{\$65,000}{2}\\ & =& \$32,500\end{array}$

Calculation of total incremental investment

The total incremental investment is $48,750.

Particulars	Amount
Investment in inventory	$32,500
Investment in accounts receivables	$16,250
Total investment	$48,750