Q: Problem 16-9 Cost of Trade Credit Grunewald Industries sells on terms of 3/10
ID: 2383814 • Letter: Q
Question
Q:
Problem 16-9
Cost of Trade Credit
Grunewald Industries sells on terms of 3/10, net 30. Gross sales last year were $4,068,500, and accounts receivable averaged $430,500. Half of Grunewald's customers paid on the 10th day and took discounts. What are the nominal and effective costs of trade credit to Grunewald's nondiscount customers? (Hint: Calculate sales/day based on a 365-day year; then get average receivables of discount customers; then find the DSO for the nondiscount customers.) Do not round intermediate calculations. Round your answers to two decimal places.
%
Please show work so I can review - I submitted once and did not get the right answer.
Nominal cost % Effective cost%
Please show work so I can review - I submitted once and did not get the right answer.
Explanation / Answer
3/10, net 30 means a discount of 3% will be given if paid within 10 days, otherwise full payment has to be made within 30 days.
sales per day = total sales/365 days = 4,068,500/365 = $11,146.58
half of the customers were non discount i.e 50% of 4,068,500 = $2,034,250. This was the value of goods bought by them.
The loss of gain in terms of the 3% discount is the cost of trade to the non discount customers.
average recievables in case of non discount customers = half of the total average receivables (as the non discount customers is the half of total customers) = 1/2*430500 = $215,250
DSO for non discount customers = (accounts receivables/sales)*365
= (215520/2034250)*365 = 365/0.1058 = 38.62 days
It means that the non discount customers pay on an average in 38.62 days.
cost of trade credit (nominal) = (% of Discount)/(100-% of Discount)×365/(Payment Date as per the terms-Discount Period)
= (3%)/(100%-3%)*365/(30-10)
=0.030928*18.25 = 0.5644 or 56.44%
cost of trade credit (effective) = (% of Discount)/(100-% of Discount)×365/(actual Payment Date -Discount Period)
actual payment date is the DSO.
= (3%)/(100%-3%)*365/(38.62-10)
= 0.030928*12.7533 = 0.3944 or 39.44%
Here is the nominal rate is greater than effective rate as in reality, the customers pay later than 30 days, thus reducing their effective cost of trade.