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Global Services is considering a promotional campaign that will increase annual credit sales by \(450,000. The company will require investments in accounts receivable, inventory, and plant and equipment. The turnover for each is as follows:

Accounts receivable	2X
Inventory	6X
Plant and equipment	1X

All \)450,000 of the sales will be collectible. However, collection costs will be 6 percent of sales, and production and selling costs will be 71 percent of sales. The cost to carry inventory will be 4 percent of inventory. Depreciation expense on plant and equipment will be 5 percent of plant and equipment. The tax rate is 30 percent.

a. Compute the investments in accounts receivable, inventory, and plant and equipment based on the turnover ratios. Add the three together.

Step by step solution

01

Information provided in question

Sales = $450,000

Accounts receivables turnover = 2 times

Inventory turnover = 6 times

Plant and equipment turnover = 1 time

02

Calculation of investment in accounts receivables

The investment in accounts receivables is $225,000.

$\begin{array}{rcl}\mathrm{Investment}\mathrm{in}\mathrm{accounts}\mathrm{receivables}& =& \frac{\mathrm{Sales}}{\mathrm{Accounts}\mathrm{receivable}\mathrm{turnover}\mathrm{ratio}}\\ & =& \frac{\$450,000}{2}\\ & =& \$225,000\end{array}$

03

Calculation of investment in inventory

The investment in inventory is $75,000.

$\begin{array}{rcl}\mathrm{Investment}\mathrm{in}\mathrm{inventory}& =& \frac{\mathrm{Sales}}{\mathrm{Inventory}\mathrm{turnover}}\\ & =& \frac{\$450,000}{6}\\ & =& \$75,000\end{array}$

04

Calculation of investment in plant and equipment

The investment in plant and equipment is $450,000.

$\begin{array}{rcl}\mathrm{Investment}\mathrm{in}\mathrm{plant}\mathrm{and}\mathrm{equipment}& =& \frac{\mathrm{Sales}}{\mathrm{Plant}\mathrm{and}\mathrm{equipment}\mathrm{turnover}}\\ & =& \frac{\$450,000}{1}\\ & =& \$450,000\end{array}$

05

Total investment required in accounts receivables, inventory, and plant and equipment

The total investment in accounts receivables, inventory, and plant and equipment is $750,000.

$\begin{array}{rcl}\mathrm{Total}\mathrm{investment}& =& \mathrm{Investment}\mathrm{in}\mathrm{accounts}\mathrm{receivable}+\mathrm{Investment}\mathrm{in}\mathrm{inventory}+\mathrm{Investment}\mathrm{in}\mathrm{plant}\mathrm{and}\mathrm{equipment}\\ & =& \$225,000+\$75,000+\$450,000\\ & =& \$750,000\end{array}$

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