Question

wxy Inc., has a line of credit (LOC) available with a bank with 20 percent interest rate. It buys the needed raw materials from a supplier with 2/10 net 30 terms of trade. Should the firm borrow from LOC to take advantage of the cash discount? Explain.

Answer 1

2/10 Net 30 refers to the trade credit offered to a customer for the sale of goods or services. 2/10 net 30 means if the customer pay within 10 days he will enjoy 2 percent discount otherwise full amount should be paid within 30 days.

2/10 Net 30 can be understand by taking example.

The invoice amount is $10,000 and 2/10 net 30 accounting is in place.

In this case if paid with in 10 days amount due=$10000x98%=9800.

If paid after 10 days Full amount $10000 required to pay.

Firm should borrow from LOC because he receive it at 20 percent interest rate while he receive supplier from 2/10 net 30 that means avail 2 percent discount if it is paid within 10 days otherwise full in 30 days,so he can receive 2x12=24% discount in a year so firm should borrow from LOC.