Case 1: Allen Distribution Company|
Would we extend the $1,000 credit line to the Morse Photo Company?| |
Introduction to Case problem and important points to be covered
The core problem for Allen Distribution Company is how to distinguish from the marginal accounts the difference between good creditors and bad creditors. Especially we show how the difference between creditors can be utilized in practice by the credit representatives. For this we provide clear guidelines. The option of extending the Morse Photo Company’s $ 1000 credit line is used as test case for these purposes. To distinguish customers we divide the accounts to different categories. There are two important points of views which in our opinion should be used to asses different accounts and prospective credit lines. Research process tracks following steps: The accounts are examined simultaneously from both perspectives: 1. Significance and potentiality of a customer
* Possible profits
2. Financial situation and expected return of a customer
IV. Examination of key figures
V. Analyzing possibility of default
VI. Scenario analysis and future outlook
* Probabilities of profit
Each account is considered as an individual project. Especially selecting the marginal credit applications is under review since the marginal accounts make the difference between profit and loss, as it is stated in the case material. Determining standardized evaluative procedures is essential since this way the credit department’s effectiveness will be improved. However, we will show how the profits are maximized rather than how the credit losses are minimized. Furthermore, the main requirement, which each project should meet, is the parent company’s expectation of 20% return before taxes. Case Morse Photo Company: Importance as a customer
From our point of view Morse is not a big customer since its annual sales of our products are predicted to be around $ 5000 and the range for small accounts is from $5 000 to $ 20 000. Even though the Morse Photo Company’s overall sales has increased fairly rapidly, Allen Distribution’s share of its total sales is rather small and not expected to grow sustainably. This is one reason why Morse cannot be considered as a very loyal customer either. Also according to letters from other companies Morse is not one of the most reliable customers. Moreover the facts that Morse Photo Company just swapped to Allen Distribution photo bulbs and it is growing company mean that Morse might have tendency to swap suppliers in the future, too. Nevertheless, these are not reasons to reject the Morse’s account if the calculations show that it has potential to add value. Below are calculations that show the best case scenario for the years 1967 and 1968 if the growth rate and net sales were at the levels as expected and Morse paid promptly.
In the case that Morse Photo Company sold all Allen Distribution’s products and it pays promptly during the whole year, the nominal gain on $ 5 000 credit line would be $ 850 and Allen Electricity the gain would be 1680$. |
For calculating the actual return and possible profits from Morse Photo Company we need to determine a discount rate which takes into account the expenses targeted on marginal accounts and credit department. Because Morse Photo Company is a marginal account this same discount rate can be applied for all marginal accounts.
The profit margins are determined after cash discount. This means that if Morse does not utilize the cash discount the margins would be higher. In the other hand there would be opportunity costs if the amount is carried due beyond the net period. These two factors can be considered to have crowding out effect on each other. This is how the cost of having to carry the amount due beyond the net period is noticed in the calculations. As a...