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    Analyzing credit policy: Bandwagonesque corporation

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    (Marginal analysis) The Bandwagonesque Corporation is considering relaxing its current

    credit policy. Currently, the firm has annual sales (all credit) of $5 million and an average collection

    period of 60 days (assume a 360-day year). Under the proposed change, the trade credit

    terms would be changed from net 60 to net 90 days and credit would be extended to a riskier

    class of customer. It is assumed that bad debt losses on current customers will remain at their current

    level. Under this change, it is expected that sales will increase to $6 million. Given the following

    information, should the firm adopt the new policy?

    New sales level (all credit) $6,000,000
    Original sales level (all credit) $5,000,000
    Contribution margin 20%
    Percent bad debt losses on new sales 8%
    New average collection period 90 days
    Original average collection period 60 days
    Additional investment in inventory $50,000
    Pre-tax required rate of return 15%

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    Solution Summary

    The expert analyzes credit policy for Bandwagonesque Corporations.