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ABF indicative answer.pptx

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ABF indicative answer.pptx

  1. 1. Is the company likely to run a high credit risk? • Recall from seminar 2 that ABF has significant retail operations. Credit risk? • ABF has significant food manufacturing operations. Who are the most likely customers? Credit risk? • How does the company manage its credit risk?
  2. 2. Is the company likely to run a high credit risk? • Recall from seminar 2 that ABF has significant retail operations. These are not likely to involve credit risk. • ABF has significant food manufacturing operations. Who are the most likely customers? Food retailers: are they likely to have liquidity issues (not being able to settle current liabilities to suppliers?). Not likely. • The company appears to manage credit risk quite closely and have significant experience with its customers.
  3. 3. Building the Allowances for doubtful accounts  Bad debt expense: “ Increase charged to the income statement”  Reversal of allowance, decreasing the allowance and generating an income item on the income statement (typically aggregated with the expense above): “Amounts released”  Receivables that will never be received, therefore written off against the allowance: “Amounts written off”
  4. 4. Building the Allowances for doubtful accounts  In 2019, the company had an opening balance of £23m, which has been used to write off £3m. At the same the company decided to release another £3m in the income statement as an income (23-3-3=17).  To build a closing balance of £24m, the company had to incur an expense of £7m (17+7=24).
  5. 5. Building the Allowances for doubtful accounts  Does the company need an allowance of £24m?
  6. 6. Building the Allowances for doubtful accounts  The question that arises is whether the company needs an allowance of £24m. It can be seen that the opening balance of allowances £23m could cover easily the write off of £3m. In addition, given the narrative in the note, the customer base of the company has a low credit risk: tights checks are conducted and the company has a long history with its customers (note: retail customers do not bring about credit risk as they pay cash).  Very conservative allowances (23/3>1). Does the company build a “cookie jar” for years when any of its lines of activities may underperform?

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