Being a financial controller of Shilpa Limited, they have provided you with the debt collection policy of the debtors' ageing analysis as on the…

(i) Calculation of Effective Cost involved in the collection process: Total cost involved in the collection would include bad debts, cash discount & administration cost i.e. Cost of Carrying debtors WN-1 Calculation of Bad debts: 31-60 days overdue: 40% of 4,06,500 = 1,62,600. Bad debt = 1,62,600 × 1.5% = 2,43961-90 days overdue: 25% of 5,21,200 = 1,30,300. Bad debt = 1,30,300 × 3% = 3,90991 or more days overdue: 15% of 2,00,000 = 30,000. Bad debt = 30,000 × 15% = 4,500Total Bad Debts = 2,439 +3,909 +4,500 = 10,848 WN - 2 Calculation of Cash Discount: Cash Discount = (50% of Current Invoice Value) × 2%= (50% of 9,94,100) × 2% = 9,941 WN - 3 Calculation of Interest Income charged on account of delayed payment: 31-60 days overdue: 40% of 4,06,500 = 1,62,600. Interest @ 2% = 1,62,600 × 2% = 3,25261-90 days overdue: 25% of 5,21,200 = 1,30,300. Interest @ 4% = 1,30,300 × 4% = 5,212Total Interest Income = 3,252 +5,212 = 8,464 Effective Cost of Debtors Policy: Bad debts + Cash discount + Administration Cost - Interest Charged ReceivedOperating Cost of Sales = Total Invoice Value × Operating Cost Ratio = 21,21,800 × 0.75 = 15,91,350Effective Cost of Debtors Policy = (₹ 10,848 +9,941 +50,000 -8,464) /15,91,350= 62,325 /15,91,350 = 0.03916 ≈ 3.92% Notes - i. In absence of information on Opportunity Rate of return on Investment, Opportunity Cost of Investment in receivables is not calculated. (ii) There are basically three aspects of management of receivables: 1. Credit Policy: A balanced credit policy should be determined for effective management of receivables. Decision of Credit standards, Credit terms and collection efforts is included in Credit policy. It involves a trade-off between the profits on additional sales that arise due to credit being extended on the one hand and the cost of carrying those debtors and bad debt losses on the other. This seeks to decide credit period, cash discount and other relevant matters. 2. Credit Analysis: This requires the finance manager to determine as to how risky it is to advance credit to a particular party. This involves due diligence or reputation check of the customers with respect to their credit worthiness. 3. Control of Receivable: This requires finance manager to follow up debtors and decide about a suitable credit collection policy. It involves both laying down of credit policies and execution of such policies.