Question

Mahan Corporation receives revenues with a present value of $1,500 and incurs costs with a present value of $1,200 on each non-delinquent sale. The probability of collection is 4/5. If the corporation extends credit under these conditions, which of the following will be true?

A. The expected profit will be positive.
B. The expected profit will be zero.
C. The expected profit will be negative.

Answer 1

Calculating the expected profit by considering the probability of collection for Mahan Corporation, the expected revenues are $1,200 and the expected costs are $960, yielding a positive expected profit of $240.

Step-by-step explanation:

When Mahan Corporation extends credit, considering the probability of collection is 4/5 (or 80%), the expected revenues and costs can be calculated as follows:

Expected Revenue = Probability of collection * Present value of revenues = 0.8 * $1,500 = $1,200

Expected Costs = Probability of collection * Present value of costs = 0.8 * $1,200 = $960

By subtracting the expected costs from the expected revenues, we can determine the expected profit:

Expected Profit = Expected Revenue - Expected Costs = $1,200 - $960 = $240

Since the expected profit is a positive value ($240), the correct answer to the student's question is:

A. The expected profit will be positive.