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27-9 a. Malone’s current accounts payable balance represents 60 days purchases. Daily
purchases can be calculated as
60
500$
= $8.33.
If Malone takes discounts then the accounts payable balance would include only 10
days purchases, so the A/P balance would be $8.33 10 = $83.33.
If Malone doesn’t take discounts but pays in 30 days, its A/P balance would be $8.33
30 = $250.
b. Takes Discounts:
Since the loan is a discount loan with compensating balances, Malone would require
Face amount of loan =
65.0
67.416$
20.015.01
67.416$
= $641.03.
Doesn’t Take Discounts:
Because the cost of nonfree trade credit is less than the cost of the bank loan, Malone
should forge discounts and reduce its payables only to $250,000.
d. Pro Forma Balance Sheet (Thousands of Dollars):
Casha$ 126.9 Accounts payable $ 250.0
Accounts receivable 450.0 Notes payableb 434.6
Inventory 750.0 Accruals 50.0
a $384,615(0.2) = $76,923 = Compensating balance.
Answers and Solutions: 27 - 3
© 2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part.
e. To reduce the accounts payable by $250,000, which reflects the 1% discount, Malone
must pay the full cost of the payables, which is $250,000/0.99 = $252,525.25. The
Face amount of loan =
0.65
5$251,515.1
0.200.151
5$251,515.1
= $386,946.38.
Pro Forma Balance Sheet (Thousands of Dollars):
Casha$ 127.4 Accounts payable $ 250.0
Accounts receivable 450.0 Notes payableb 436.9
Inventory 750.0 Accruals 50.0
Prepaid interest 58.0
Total current Total current
assets $1,385.4 liabilities $ 736.9
Fixed assets 750.0 Long-term debt 150.0
Common equityc 1,248.5
Total assets $2,135.4 Total claims $2,135.4
a $386,946.38(0.2) = $77,389.27 = Compensating balance.
Cash = $50 + $77.4 = $127.4.
b Notes payable = $50 + $386.9 = $436.9.
c Common equity = Previous common equity – after-tax lost discount
= $1,250 - $1.5 = $1,248.5
Answers and Solutions: 27 - 4
© 2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part.
27-10 a. 1. Line of credit:
Commitment fee = (0.005)($2,000,000)(11/12) = $ 9,167
2. Trade discount:
a.
rate
Nominal
=
98
2
30
360
= 24.49 ≈ 24.5%.
Total cost = 0.245($2,000,000)/12 = $40,833.
b. Effective cost = (1 + 2/98)360/30 - 1 = 0.2743 = 27.43%.
3. 30-day commercial paper:
4. 60-day commercial paper:
Marketable securities interest received
Transactions cost, marketable securities
The 30-day commercial paper has the lowest cost.
Answers and Solutions: 27 - 5
© 2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part.
b. The lowest cost of financing is not necessarily the best. The use of 30-day
commercial paper is the cheapest; however, sometimes the commercial paper market
is tight and funds are not available. This market also is impersonal. A banking
SOLUTION TO SPREADSHEET PROBLEM
27-11 The detailed solution for the spreadsheet problem, Ch27 P11 Build a Model
Solution.xlsx, is available on the textbook’s Web site.
Answers and Solutions: 27 - 6
© 2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part.
MINI CASE
Rich Jackson, a recent finance graduate, is planning to go into the wholesale building
supply business with his brother, Jim, who majored in building construction. The firm
would sell primarily to general contractors, and it would start operating next January.
Sales would be slow during the cold months, rise during the spring, and then fall off again
in the summer, when new construction in the area slows. Sales estimates for the first 6
months are as follows (in thousands of dollars):
Jan $100
Feb 200
Mar 300
Apr 300
May 200
Jun 100
The terms of sale are net 30, but because of special incentives, the brothers expect 30
percent of the customers (by dollar value) to pay on the 10th day following the sale, 50
percent to pay on the 40th day, and the remaining 20 percent to pay on the 70th day. No
bad debt losses are expected, because Jim, the building construction expert, knows which
contractors are having financial problems.
a. Discuss, in general, what it means for the brothers to set a credit and collections
policy.
Answer: When a firm sets its credit and collections policy it determines four things:
1. The credit period, which is the length of time buyers are given to pay for their
purchases
2. The discounts that are given for early payment.
These policies determine the level of sales and also the level of accounts receivable.
require the investment of funds, so a firm must take both the profits from additional
b. 2. What is its expected average daily sales (ADS)?
365
)100($000,18
b. 3. What is its expected average accounts receivable (AR) level?
Answer: Accounts receivable (AR) = (DSO)(ADS) = 37($4,931) = $182,466. Thus, $182,466
b. 4. Assume that the firm’s profit margin is 25 percent. How much of the receivables
balance must be financed? What would the firm’s balance sheet figures for
accounts receivable, notes payable, and retained earnings be at the end of one
year if notes payable are used to finance the investment in receivables? Assume
that the cost of carrying receivables had been deducted when the 25 percent
profit margin was calculated.
Answer: Although the firm has $182,466 in receivables, the entire amount does not have to be
financed, since 25 percent of the sales price is profit. This means that 75 percent of
Accounts receivable $182,466 Notes payable $136,849
Answers and Solutions: 27 - 8
© 2017 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible
website, in whole or in part.
