Case Study: How to increase sales and a line of credit.
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Franklyn Furniture (FF) is a midsized owner operated business that was started 25 years ago by Fred Franklyn. The retail furniture business is cyclical, with business dropping off in times of economic downturn, as is the case currently. In order to encourage sales, the store offers its own credit cards to good customers. FF has run into a bit of a cash crunch and is planning to go to the bank to obtain an increase in its line of credit in order to replenish and expand the furniture stock. At present, the line of credit is capped at (ie. Limited to) 70% of the credit card receivables and inventory. The receivables and inventory have been pledged as security for the loan.
Fred Franklyn has identified two possible sources of cash shortage outstanding credit card receivables and a build-up in old inventory. He has come up with two strategies to deal with the problem:
1. Credit card receivables:
For the existing receivables, Franklyn has found the company Factors, Inc. (FI), which will buy the receivables for 93% of their face value. The two companies are currently negotiating the terms of the deal. So far, FF has agreed to transfer legal title to the receivables to FI, and FF WILL MAINTAIN AND COLLECT THE RECEIVABLES. The one term that is still being discussed is whether FI will have any recourse to FF if the amounts become uncollectible.
2. Excess inventory:
A new sales promotion has been advertised in the newspaper for the past two months. Under the terms of the promotion, customers do not pay anything up front and will be able to take the furniture home and begin payments the following year. Response to the advertisement has been very good and a significant amount of inventory has been moved to date, leaving room for new inventory once the bank financing comes through.
Instructions:
Assume the role of Fred Franklyn's bookkeeper and advise him about the impact of the strategies on the company's financial reporting.
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Solution Summary
This solution abstract is comprised of strategies a bookkeeper can use to advise an owner of a company. The case study is about a furniture company owner that needs to encourage sales of current inventory as well as obtain an increase in its line of credit in order to replenish and expand the furniture stock. Playing the role of bookkeeper, advice is given regarding outstanding credit card receivables and excess inventory.
Solution Preview
In regard the first strategy concerning the outstanding credit card receivables, the company Factors Inc. will buy them for 93% of their face value which will result in a loss of the remaining 7% value of the original sales amount. If the title of the accounts is to be transferred to Factor Inc. then these accounts will no longer be reported on the company's financial statements therefore cash will increase by 93% and Account Receivables will decrease by 93%. Also the extent to which some of the credit card receivables may not be recoverable is unknown at this point from the narrative given. Has the company adopted a method of valuation of accounts receivable? Have credit card accounts receivables been aged? In other words what accounts have ...
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