Travel and Tow Trailers Inc.makes small trailers for light-duty towing behind SUVs and small pickup trucks.Its trailers typically sell for $2,500.Many of its customers have asked for credit terms to aid in purchasing the trailers.The firm's finance department has estimated the following profile for its light-duty trailers and customer base: Annual sales: 10,000 trailers
Annual production costs per trailer: $1,500
Lost sales if credit is not provided for customers: 2,000 trailers
Default rate if all customers purchase on credit: 3.00%
What is the dollar value of bad debts the firm expects to accumulate over a year? Given this amount,what is the maximum average amount per unit sold that the firm should spend on credit screening?
A)$450,000;$45.00
B)$450,000;$56.25
C)$4,500,000;$450.00
D)$4,500,000;$$562.50

Question

Quizplus · Accepted Answer

To calculate the dollar value of bad debts, we need to first calculate the number of customers who will default on their credit purchase. This can be found by multiplying the number of trailers sold on credit (which is the difference between total sales and lost sales) by the default rate:

Number of trailers sold on credit = Total sales - Lost sales = 10,000 - 2,000 = 8,000

Number of customers who will default = 8,000 x 3.00% = 240

Now we can calculate the dollar value of bad debts by multiplying the number of defaulting customers by the average sale price:

Dollar value of bad debts = 240 x $2,500 = $600,000

To find the maximum average amount per unit sold that the firm should spend on credit screening, we can use the following formula:

Maximum credit screening cost per unit = (Dollar value of bad debts / Number of trailers sold on credit)

Maximum credit screening cost per unit = ($600,000 / 8,000) = $75

However, the question asks for the maximum AVERAGE amount per unit sold that the firm should spend on credit screening. To find this, we need to divide the maximum credit screening cost per unit by the total sale price per unit:

Maximum average credit screening cost per unit = $75 / $2,500 = $0.03 x 100 = $3

Therefore, the answer is A) $450,000 and $45.00.

Travel and Tow Trailers Inc $$56250