A firm is contemplating stricter collection policies.  The following details are available:
i)  At present, the firm is selling 36,000 units on credit at a price of $ 32 each; the variable cost per unit is $ 25 per unit the average cost per unit is $ 29; average collection period is 58 days; and collection expenses amount to $ 10,000; uncollectible are 3 percent.    
ii) If the collections procedures are tighten, collection expenses will be increased to $30,000, uncollectible expenses will be decreased by 2 percent; the collection period will be 40 days; sales volume is likely to decline by 500 units.  Assume a 20% rate of return on investment, should the firm implement the new decision?

To determine whether the firm should implement the stricter collection policy, we need to analyze both the costs and benefits of the new policy compared to the current one. The decision will be based on whether the increase in profits and reduction in uncollectible accounts outweigh the additional collection expenses and reduced sales.

### Step 1: Current Situation Analysis

1. **Sales Revenue**:
   - Current sales volume: 36,000 units
   - Selling price per unit: $32
   - Total sales revenue = $ 36,000 \times 32 = \$1,152,000 $

2. **Variable Costs**:
   - Variable cost per unit: $25
   - Total variable costs = $ 36,000 \times 25 = \$900,000 $

3. **Contribution Margin**:
   - Contribution margin per unit = Selling price per unit - Variable cost per unit = $ 32 - 25 = \$7 $
   - Total contribution margin = $ 36,000 \times 7 = \$252,000 $

4. **Collection Expenses**:
   - Current collection expenses = $10,000

5. **Uncollectible Accounts**:
   - Uncollectible percentage: 3%
   - Total uncollectible accounts = $ 3\% \times 1,152,000 = \$34,560 $

6. **Average Collection Period**:
   - 58 days

### Step 2: Proposed Stricter Collection Policy Analysis

1. **Sales Revenue**:
   - New sales volume = 36,000 - 500 = 35,500 units
   - Selling price per unit: $32
   - Total sales revenue = $ 35,500 \times 32 = \$1,136,000 $

2. **Variable Costs**:
   - Variable cost per unit: $25
   - Total variable costs = $ 35,500 \times 25 = \$887,500 $

3. **Contribution Margin**:
   - Contribution margin per unit = $ 32 - 25 = 7 $
   - Total contribution margin = $ 35,500 \times 7 = \$248,500 $

4. **Collection Expenses**:
   - New collection expenses = $30,000

5. **Uncollectible Accounts**:
   - New uncollectible percentage: 3% - 2% = 1%
   - Total uncollectible accounts = $ 1\% \times 1,136,000 = \$11,360 $

6. **Average Collection Period**:
   - 40 days

### Step 3: Evaluate the Costs and Benefits

1. **Difference in Contribution Margin**:
   - Current contribution margin = $252,000
   - New contribution margin = $248,500
   - Difference = $ 252,000 - 248,500 = \$3,500 $

2. **Difference in Collection Expenses**:
   - Current collection expenses = $10,000
   - New collection expenses = $30,000
   - Difference = $ 30,000 - 10,000 = \$20,000 $

3. **Difference in Uncollectible Accounts**:
   - Current uncollectible accounts = $34,560
   - New uncollectible accounts = $11,360
   - Difference = $ 34,560 - 11,360 = \$23,200 $

4. **Impact on Accounts Receivable**:
   - Average collection period is reduced from 58 days to 40 days. This means less capital is tied up in receivables, which can be reinvested at a rate of return of 20%.
   - Current average accounts receivable = $ \frac{58}{365} \times 1,152,000 = \$183,263.01 $
   - New average accounts receivable = $ \frac{40}{365} \times 1,136,000 = \$124,602.74 $
   - Reduction in average accounts receivable = $ 183,263.01 - 124,602.74 = \$58,660.27 $
   - Savings from reduced accounts receivable = $ 20\% \times 58,660.27 = \$11,732.05 $

### Step 4: Net Impact on Profitability

- Change in contribution margin: -$3,500
- Change in collection expenses: -$20,000
- Change in uncollectible accounts: +$23,200
- Savings from reduced accounts receivable: +$11,732.05

Net impact on profitability:
\[ -3,500 - 20,000 + 23,200 + 11,732.05 = +\$11,432.05 \]

### Conclusion:
The net impact on profitability is positive, with an increase of $11,432.05. Therefore, the firm should implement the new stricter collection policy as it improves overall profitability.

Would you like further details on any part of this analysis or have any other questions?

Here are some related questions:
1. How does reducing the collection period impact cash flow?
2. What other factors should a firm consider when changing credit policies?
3. How does the reduction in sales volume affect overall business strategy?
4. What are some methods to minimize uncollectible accounts besides tightening collection policies?
5. How does the return on investment rate influence financial decisions?

**Tip:** Regularly evaluating your credit policies can improve cash flow and reduce bad debts, ensuring more efficient use of resources.

Explore the cost-benefit analysis of implementing stricter collection policies in finance. This analysis covers sales revenue, variable costs, collection expenses, uncollectible accounts, and the impact on profitability. Learn whether the firm should adopt the new policy based on financial management principles.

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