Trade credit discount. Compute the annual approximate interest cost of not taking a discount using the following scenarios. What conclusion can be drawn from the calculations? a. 1/10 net 30 b. 1/10 net 30 c. 1/10 net 40 d. 1/10 net 50 e. 1/10 net 60
To compute the annual approximate interest cost of not taking a trade credit discount, we need to first understand the terms of the discount and then calculate the cost under each scenario.
The terms "1/10 net 30" mean that a 1% cash discount is offered if payment is made within 10 days, and the full payment is due within 30 days. Similarly, "1/10 net 40," "1/10 net 50," and "1/10 net 60" indicate the number of days within which payment must be made to qualify for the 1% cash discount.
To calculate the annual approximate interest cost, we can use the formula:
Annual Approximate Interest Cost = (Discount Percent / (100% - Discount Percent)) x (365 / (Full Payment Days - Discount Days))
a. 1/10 net 30:
Discount Percent = 1% (0.01)
Full Payment Days = 30
Discount Days = 10
Using the formula:
Annual Approximate Interest Cost = (0.01 / (1 - 0.01)) x (365 / (30 - 10))
= (0.01 / 0.99) x (365 / 20)
= 0.0101 x 18.25
= 0.184525
b. 1/10 net 30:
Using the same formula as above, the annual approximate interest cost would be the same as in scenario "a" since the terms are the same.
c. 1/10 net 40:
Discount Percent = 1%
Full Payment Days = 40
Discount Days = 10
Using the formula:
Annual Approximate Interest Cost = (0.01 / (1 - 0.01)) x (365 / (40 - 10))
= (0.01 / 0.99) x (365 / 30)
= 0.0101 x 12.17
= 0.123017
d. 1/10 net 50:
Discount Percent = 1%
Full Payment Days = 50
Discount Days = 10
Using the formula:
Annual Approximate Interest Cost = (0.01 / (1 - 0.01)) x (365 / (50 - 10))
= (0.01 / 0.99) x (365 / 40)
= 0.0101 x 9.125
= 0.0924125
e. 1/10 net 60:
Discount Percent = 1%
Full Payment Days = 60
Discount Days = 10
Using the formula:
Annual Approximate Interest Cost = (0.01 / (1 - 0.01)) x (365 / (60 - 10))
= (0.01 / 0.99) x (365 / 50)
= 0.0101 x 7.3
= 0.07373
Now, let's draw conclusions from these calculations:
- The higher the full payment days, the lower the annual approximate interest cost.
- The shorter the discount days, the higher the annual approximate interest cost.
Therefore, it is beneficial to take advantage of trade credit discounts and make payment within the discount period, as this reduces the cost of borrowing and helps save money.