Multiple choice help (1 Viewer)

[Nukeboy]

In a business the accounts receivable turnover ratio is 60 days, where in the previous year it was 50 days. The business has a goal to maintain or increase profitability in the current period. Which of the following would be a suitable strategy for the business to adopt?

A) Write off all outstanding accounts in bad debt
B) Sell the accounts receivable to a factoring company
C) Extend the credit period for payment
D) Impose fees or charge interest for late payment

Any help is appreciated

 

[Katsumi]

A) Write off all outstanding accounts in bad debt
B) Sell the accounts receivable to a factoring company
C) Extend the credit period for payment
D) Impose fees or charge interest for late payment

A can be immediately cancelled out as that wouldn't result in an increase in profitability
C makes no sense
D i wouldn't pick as it would discourage future creditors, resulting in a decrease in profitability.

B is a legitimate strategy for improving cash flow and hence the accounts receivable and turnover ratio. As through the selling of accounts receivable to a company that specializes in collecting accounts receivable the business can avoid the costs associated with following up unpaid accounts and stuff. Also through being able to receive finances instantly if the current period is ending in the immediate future they can maintain or increase profitability that way

could be wrong though, as factoring can be expensive but idk

 

[Nukeboy]

Hmm thanks. I guess B would make most sense.
Its just that, like you mentioned, accounts receivable is strategy used for improving cash flow and doesnt really impact on profitability directly. its effects on profitability if any are indirect, again like you mentioned, through saving costs on following up on debts.

But D would increase the income and so would affect profitability in the current period. Then again, D just seems wrong lol.

oh well, thanks for the input anyways. Your responses are always nicely detailed.

 

[BLIT2014]

As Katsumi said 'B' look most correct

 

[khalsa123]

I would say 'D' even though it seems wrong. 'A' and 'C' are wrong for sure so that leaves B and D. But factoring is associated with increasing liquidity but it also DECREASES profitability and although 'D' seems wrong particularly for the future of the business, it answers the question pretty well as it would increase profit in the short term.

 

[Nukeboy]

So do you assume that fees and interest add to your total revenue for the period and increase profitability?

 

[khalsa123]

yeah because those fees and charges are imposed on the customers that are paying late, therefore they will have to pay more = more profit
i could be wrong though
Although 'B' could be correct i feel as though factoring is concerned with the financial objective of liquidity and it actually lowers profitability, therefore 'D' is the only viable option and it makes sense too

 

[Katsumi]

Yet it can be assumed that through factoring the business can increase its profitability through not having to follow up on unpaid accounts (cost controls - expense minimization), increasing liquidity is still a valid way to achieve profitability honestly, but i completely get why it can be D

The main decider for me was the keyword "strategy", i don't recall D being in the strategy section of any textbook, i actually wrote that it was a discouraged option in my notes at some point as it has long term negative implications on a businesses financial situation, however it is a totally valid option if you think otherwise, as the question only states 'current period'.