(a) Evaluation of change in credit policy
Current average collection period = 30 + 10 = 40 days
Current accounts receivable = 6m × 40 / 365 = GH¢657,534
Average collection period under new policy = (0.3 × 15) + (0.7 × 60) = 46.5 days
New level of credit sales = GH¢6.3 million
Accounts receivable after policy change = 6.3 × 46.5 / 365 = GH¢802,603
Increase in financing cost = (802,603 – 657,534) × 0.07 = GH¢10,155

Incremental costs = 6.3m × 0.005 = GH¢31,500
Cost of discount = 6.3m × 0.015 × 0.3 = GH¢28,350
Increase in costs = GH¢10,155 + GH¢31,500 + GH¢28,350 = GH¢70,005
Contribution from increased sales = 6m × 0.05 × 0.6 = GH¢180,000
Net benefit of policy change = GH¢180,000 – GH¢70,005 = GH¢109,995

The proposed policy change will increase the profitability of Tamale Transport Ltd by GH¢109,995.

(b) Determination of spread:
Daily interest rate = 5.11 / 365 = 0.014% per day
Variance of cash flows = 1,000 × 1,000 = GH¢1,000,000 per day
Transaction cost = GH¢18 per transaction
Spread = 3 × ((0.75 × transaction cost × variance) / interest rate)^(1/3)
= 3 × ((0.75 × 18 × 1,000,000) / 0.00014)^(1/3)
= 3 × 4,585.7 = GH¢13,757

Lower limit (set by Salaga Enterprises) = GH¢7,500
Upper limit = 7,500 + 13,757 = GH¢21,257
Return point = 7,500 + (13,757 / 3) = GH¢12,086

The Miller-Orr model takes account of uncertainty in relation to receipts and payment. The cash balance of Salaga Enterprises is allowed to vary between the lower and upper limits calculated by the model. If the lower limit is reached, an amount of cash equal to the difference between the return point and the lower limit is raised by selling short-term investments. If the upper limit is reached, an amount of cash equal to the difference between the upper limit and the return point is used to buy short-term investments. The model therefore helps Salaga Enterprises to decrease the risk of running out of cash, while avoiding the loss of profit caused by having unnecessarily high cash balances.

(c) There are four key areas of accounts receivable management: policy formulation, credit analysis, credit control, and collection of amounts due.

Policy formulation
This is concerned with establishing the framework within which management of accounts receivable in an individual company takes place. The elements to be considered include establishing terms of trade, such as period of credit offered and early settlement discounts: deciding whether to charge interest on overdue accounts; determining procedures to be followed when granting credit to new customers; establishing procedures to be followed when accounts become overdue, and so on.

Credit analysis
Assessment of creditworthiness depends on the analysis of information relating to the new customer. This information is often generated by a third party and includes bank references, trade references, and credit reference agency reports. The depth of credit analysis depends on the amount of credit being granted, as well as the possibility of repeat business.

Credit control
Once credit has been granted, it is important to review outstanding accounts on a regular basis so overdue accounts can be identified. This can be done, for example, by an aged receivables analysis. It is also important to ensure that administrative procedures are timely and robust, for example sending out invoices and statements of account, communicating with customers by telephone or e-mail, and maintaining account records.

Collection of amounts due
Ideally, all customers will settle within the agreed terms of trade. If this does not happen, a company needs to have in place agreed procedures for dealing with overdue accounts. These could cover logged telephone calls, personal visits, charging interest on outstanding amounts, refusing to grant further credit and, as a last resort, legal action. With any action, potential benefit should always exceed expected cost.

(d) When considering how working capital is financed, it is useful to divide assets into non-current assets, permanent current assets, and fluctuating current assets. Permanent current assets represent the core level of working capital investment needed to support a given level of sales. As sales increase, this core level of working capital also increases. Fluctuating current assets represent the changes in working capital that arise in the normal course of business operations, for example when some accounts receivable are settled later than expected, or when inventory moves more slowly than planned.

The matching principle suggests that long-term finance should be used for long-term assets. Under a matching working capital funding policy, therefore, long-term finance is used for both permanent current assets and non-current assets. Short-term finance is used to cover the short-term changes in current assets represented by fluctuating current assets.

Long-term debt has a higher cost than short-term debt in normal circumstances, for example because lenders require higher compensation for lending for longer periods, or because the risk of default increases with longer lending periods. However, long-term debt is more secure from a company point of view than short-term debt since, provided interest payments are made when due and the requirements of restrictive covenants are met, terms are fixed to maturity. Short-term debt is riskier than long-term debt because, for example, an overdraft is repayable on demand and short-term debt may be renewed on less favourable terms.

A conservative working capital funding policy will use a higher proportion of long-term finance than a matching policy, thereby financing some of the fluctuating current assets from a long-term source. This will be less risky and less profitable than a matching policy, and will give rise to occasional short-term cash surpluses.

An aggressive working capital funding policy will use a lower proportion of long-term finance than a matching policy, financing some of the permanent current assets from a short-term source such as an overdraft. This will be more risky and more profitable than a matching policy.

Other factors that influence a working capital funding policy include management attitudes to risk, previous funding decisions, and organisation size. Management attitudes to risk will determine whether there is a preference for a conservative, an aggressive, or a matching approach. Previous funding decisions will determine the current position being considered in policy formulation. The size of the organisation will influence its ability to access different sources of finance. A small company, for example, may be forced to adopt an aggressive working capital funding policy because it is unable to raise additional long-term finance, whether equity or debt.