Question

Zand Co. is a highly successful supplier of leather to manufacturers of leather goods. Zand is considering expanding into the U.S. luxury auto seat market. It is estimated that although selling leather to U.S. auto manufacturers will bring additional annual sales of $1,100,000, a high 19% of those accounts will be uncollectible. The cost of conditioning and selling the leather is 67% of sales. Zand's tax rate is 31%. Zand has a receivables turnover of 2.6. Calculate Zand's incremental net income on the new sales. Calculate the incremental accounts receivable. Calculate the ROI on the additional investment.

Answer 1

Incremental net income

Incremental sales	$1,100,000
Less: Bad debts (19% x $1,100,000)	$209,000
Less: Variable Costs (67% x $1,100,000)	$737,000
Incremental profit before tax	$154,000
Less: Tax @31%	$47,740
Incremental Net Income	$106,260

Incremental accounts receivable

Receivable turnover = Credit Sales / Accounts receivable

or, 2.6 = $1,100,000 / Accounts receivable

or, Accounts receivable = $423,076.923076 or $423,076.92

This additional accounts receivable is the additional investment of the company (investment in working capital).

ROI on additional investment

ROI = (Incremental Net Income / Additional investment) x 100

or, ROI = ($106,260 / $423,076.923076) x 100 = 25.116% or 25.12%