Cash discount decisions: Prairie Manufacturing has four possible suppliers, all
ID: 2723839 • Letter: C
Question
Cash discount decisions: Prairie Manufacturing has four possible suppliers, all of which offer different credit terms. Except for the differences in credit terms, their products and services are virtually identical. The credit terms offered by these suppliers are shown in the following table. (Note: Assume a 365-day year.)
a. Calculate the approximate cost of giving up the cash discount from each supplier.
b. If the firm needs short-term funds, which are currently available from its commercial bank at 9%, and if each of the suppliers is viewed separately, which, if any, of the suppliers cash discounts should the firm give up? Explain why.
c. Now assume that the firm could stretch by 30 days its accounts payable (net period only) from supplier M. What impact, if any, would that have on your answer in part b relative to this supplier?
Supplier Credit Terms J 2/10 net 30 EOM K 3/20 net 80 EOM L 2/10 net 70 EOM M 2/20 net 90 EOMExplanation / Answer
a. Cost of giving up the cash discount from J = 2/98 * 365/(30-10) = 37.24%
Cost of giving up the cash discount from K = 3/97 * 365/(80-20) =18.81%
Cost of giving up the cash discount from L = 2/98 * 365/(70-10) = 12.42%
Cost of giving up the cash discount from M = 2/98 * 365/(90-20) = 10.64%
b. The firms should not give up any discounts from any of the four suppliers since the cost of giving up the discount is higher than the 9% of interest on bank loan
c. When the days streched to 30 days, Cost of giving up the cash discount from M = 2/98 * 365/(90-30) = 12.42. This is still higher than 9% and will not have any impact
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