Warren Motor Company sells $30 million of its products to wholesalers on terms o

Question

Warren Motor Company sells $30 million of its products to wholesalers on terms of "net 30." Currently, the firm's average collection period is 48 days. In an effort to speed up the collection of receivables, Warren is considering offering a cash discount of 2 percent if customers pay their bills within 10 days. The firm expects 50 percent of it's customers to take the discount and it's average collection period to decline to 30 days. The firm's required pre tax return (i.s. opportunity cost) on receivables investment is 16 percent. Determine the cost of the cash discounts to Warren.

Explanation / Answer

Current Interest burden=30000000*0.16*(48/365) (A) 631232.9 Average Collection Period=30 and 50% people pay in 10days. Let the collection periof of others is X So , 0.5*10+0.5*X=30 or X=(30-5)/0.5=25/0.5=50 So the New Interest Burden=15000000*0.16*(10/365)+15000000*0.16*(50/365) (B) 394520.5 Cash Discount cost=0.02*15000000

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