McDowell Industries sells on terms of 3/10, net 30. Total salesfor the year are
ID: 2770704 • Letter: M
Question
McDowell Industries sells on terms of 3/10, net 30. Total salesfor the year are $912,500;40 percent of the customers pay on the10th day and take discounts, while the other 60 percentpay, on average, 40 days after their purchases.
a. What is the day’s saleoutstanding?
b. What is the average amount ofreceivables?
c. What is the percentage cost oftrade credit to customers who take the discount and to those who donot take it?
d. What would happen to its accountsreceivable if McDowell toughened up on its collection policy withthe result that all nondiscount customers paid on the30th day?
Explanation / Answer
a. 0.4(10) + 0.6(40) = 28days.
b. $912,500/365 = $2,500 sales perday.
$2,500(28) =$70,000 = Average receivables.
c. Customers who take discount: Free trade credit.
Customers who do not take the discount and pay on Day 30:
1. Nominal cost: 3/97 * 365/20 = 56.44%.
2. Effective cost: (1 + 3/97)365/20 – 1 =1.7435 – 1 = 0.7435 = 74.35%.
Customers who do not take the discount and pay on Day 40:
1. Nominal cost: 3/97 * 365/30 = 37.63%.
2. Effective cost: (1 + 3/97)365/30 – 1 =0.4486 = 44.86%.
d. 0.4(10) + 0.6(30) = 22 days. $912,500/365 = $2,500 sales per day.
$2,500(22) =$55,000 = Average receivables.
Sales may alsodecline as a result of the tightened credit. This wouldfurther reduce receivables. Also, some customers may now takediscounts further reducing receivables.