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

Mehta Traders buys goods of Rs 4,90,000 on terms 2/15, net 45. Using a 360-day year and the simple formula, what is the annual cost of not taking the discount, and what should the firm do if it can borrow from its bank at 15% p.a.?

The cost of forgoing the discount is 24.49% per year, from 2/98 multiplied by 360/30. Because this is higher than the 15% bank borrowing rate, Mehta Traders should borrow from the bank, pay within 15 days and take the discount.

  1. A24.49%; take the discount and borrow from the bankCorrect
  2. B12.24%; forgo the discount
  3. C24.49%; forgo the discount
  4. D36.73%; forgo the discount

Explanation

Cost = [2/98] x [360/(45-15)] = 0.020408 x 12 = 24.49%. Since this exceeds the bank rate of 15%, it is cheaper to borrow and pay within 15 days to earn the discount. Forgoing the discount would cost more than the bank loan.

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