Question

Potter Manufacturing currently has $580,000 in accounts receivable and generated $4,550,000 in sales during the year just ended. Potter's CFO is unhappy with the DSO and wants to improve collections next year. Sales are expected to grow by 14% next year and the CFO wants to lower the DSO to the industry average of 42 days. If successful, by how much would the company's AFN be reduced? ?

Answer 1

Accounts Receivable = $580,000

Sales = $45, 50,000

DSO (Daily Sales Outstanding) = Accounts Receivable/ Sales * number of days

Or, DSO (Daily Sales Outstanding) = $580,000/ $45, 50,000*360= 46days (approx)

Next Year Sales = $45, 50,000* 1.14 = $51, 87,000

Now if the DSO is lowered to 42 days then accounts receivable would be;

42= Accounts Receivable/ $51, 87, 000 *360

Or, Accounts Receivable = 42* 51, 87, 000/ 360= $605,150

Now with the Previous DSO, company’s receivable at current growth of sales would have been;

46= Accounts Receivable/ $51, 87, 000 *360

Or, 46* 51, 87, 000/ 360 = Accounts Receivable

Or, Accounts Receivable = $662, 783

Now with the reduced target of DSO to 42 days AFN will be reduced by ($662783 - $605150) $57633.