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CA Intermediate · Financial Management and Strategic Management · Management of Payables (Creditors)

Kapoor Ltd purchases raw material worth Rs 48,00,000 a year on terms '3/10, net 60'. A bank offers a loan at 18% p.a. to fund early payment (360-day year). Compare the annualised cost of forgoing the discount with the loan rate and choose the correct conclusion.

The cost of forgoing is (3/97) x (360/50) = 22.27%, higher than the 18% bank rate. So Kapoor Ltd should borrow from the bank and pay on day 10 to claim the discount, as this is cheaper than relying on supplier credit.

  1. ACost of forgoing is about 22.27%; take the discount and borrow at 18%Correct
  2. BCost of forgoing is about 21.61%; forgo the discount as it exceeds 18%... so pay on day 60
  3. CCost of forgoing is about 18.56%; forgo the discount because it is near 18%
  4. DCost of forgoing is about 22.27%; forgo the discount and use supplier credit

Explanation

Cost = (3/97) x (360/50) = 3.0928% x 7.2 = 22.27%. Since 22.27% exceeds the 18% loan rate, borrowing to take the discount saves money. Using 3/100 gives 21.60%, wrong base, and option 4 reverses the decision.

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