Question

For this discussion, you must provide answers for the following scenarios.

1. Grace Gardner is the vice president of sales and marketing for Bermuda Pools and Spas, she wants the company’s credit department to be more liberal in granting credit to potential customers. She is frustrated credit departments stringent requirements. Please discuss the pros and cons of easy credit. What are the implications for the company’s financial statements?
2. Ted Taylor is a product manager for the Harper Shoe Company. Ted feels that his company should switch from LIFO to FIFO. Ted stated, “My bonus is based on net income and if we switch methods the company’s net income will increase and I will earn a higher bonus check and it would be great for me and the company”. Is Ted correct in his assessment? Please explain and provide details.

Answer 1

a. The pros of easy credit include generate higher sales since more customers will avail the credit due to liberal policy and in turn will generate additional profits for the business. The cons of easy credit means that more customers are likely to default, increased costs of collection and higher requirement of working capital. The financial statements will reflect higher accounts receivable outstanding and also the cash will reflect lesser balance. This may show an appropriate liquidity position of the company unless the company collects within the stipulated time period.

b. Ted wants to switch from LIFO to FIFO since it will result in lower cost of goods sold and higher ending inventory costs thereby increasing the gross profit. An change in the inventory valuation method must be justified by either better presentation of accounts, or is required by law. Ted's intention to change the inventory valuation to have better profits on the income statement is certainly unethical and will only lead to window dressing of the financials. This may result in short term gains for the manager and the business but in the long run will only put them into jeopardy.