The total amount saved by the new accounts payable and cash disbursement process will be $1,500,000 × 3 days, or $4,500,000. That will be the average balance of added cash that will be available to Garner every day of the year. The company is in a borrowing position for 8 months of the year. So the amount of added cash will decrease the amount that the company needs to borrow and thus will decrease its interest expense for 8 months of the year. The company’s borrowing rate is 7%. So the annual amount of decrease in the company’s interest expense will be $4,500,000 × .07 ÷ 12 × 8, or $210,000. The company is in an investment position for 4 months of the year. So the amount of added cash will increase the amount that the company can invest and thus will increase its interest income for 4 months of the year. The company’s average yield on funds invested in marketable securities is 4%. So the annual amount of increase in the company’s interest income will be $4,500,000 × .04 ÷ 12 × 4, or $60,000. The amount of the annual decrease in interest expense plus the amount of the annual increase in interest income will be the amount of annual increased net income that Garner can expect as a result of the new accounts payable and cash disbursement process. That will be $210,000 + $60,000, or $270,000. So the maximum annual expense that Garner could incur for the new process and still break even would be equal to the annual increase in net income from the process, or $270,000.
This answer results from using the 7% borrowing rate to calculate the amount of increase in net income from the new accounts payable and cash disbursement system. However, the 7% borrowing rate will be applicable for only 8 months of the year. For the other 4 months, the applicable rate will be the average yield rate on marketable securities.
This answer results from using the daily cash outflow amount of $1,500,000 multiplied by 2 to calculate the amount of net income expected as a result of the new accounts payable and cash disbursement process. However, the company will be adding that amount for each of 3 days to its available cash balance, not just for 2 days.
This answer results from using the daily cash outflow amount of $1,500,000 to calculate the amount of net income expected as a result of the new accounts payable and cash disbursement process. However, the company will be adding that amount for each of 3 days to its available cash balance, not just for 1 day.
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