Cost Management: A Strategic Emphasis 5th Edition by David Stout, Edward Blocher, Gary Cokins

Exercise 38

Purchase Discounts It is typically beneficial for companies to take advantage of early-payment discounts allowed on purchases made on credit. To see why this is the case, determine the effective rate of interest associated with not taking advantage of the early-payment discount for each of the following situations. Assume in each case that payment is made on the 30th day of the billing cycle.

Required

1. What is the opportunity cost of not taking advantage of the discount associated with purchases made under the following terms: 2/10, n/30?

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2. What is the opportunity cost of not taking advantage of the discount associated with purchases made under the following terms: 1/10, n/30?

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3. What is the appropriate accounting treatment for purchase discounts?

Step 1 of 9

The financial cost of not taking advantage of the early payment on discount for purchases on credit are measured by the formula given below:

1.In the given case the calculation of opportunity cost is calculated by the help of the above formula as below:

So basically the opportunity cost of not taking the early payment in the respect billing cycle at the end of 30^th for the month is around .Thus it can be concluded that the customer would pay 2% to delay its payment for extra 20 days to pay the 98% of the total bill which is outstanding.