A Firm Is Offered Credit Terms of 1/10 Net 45

question 91

Multiple Choice

A firm is offered credit terms of 1/10 net 45 EOM by a major supplier. The firm has determined thatit can stretch the credit period (net period only) by 25 days without damaging its credit standingwith the supplier. Assuming the firm needs short-term financing and can borrow from the bank on a line of credit at an interest rate of 14 percent, the firm should

• A) take the cash discount and finance the purchase with the line of credit, the cheaper source of funds.
• B) take the cash discount and pay on the first day of the cash discount period.
• C) give up the cash discount and pay on the 70th day after the date of sale.
• D) give up the cash discount and finance the purchase with the line of credit.

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Definitions:

Opportunity Cost

The cost of forgoing the next best alternative when making a decision. It represents the benefits an individual, investor or business misses out on when choosing one alternative over another.

Implicit Rate

The implied rate of return that is not explicitly stated, often used in the context of comparing the cost of borrowing to the rate of return on investments.

Equity Capital

The amount of money that is invested in a company by its owners, in exchange for ownership interest or shares.

Economic Profit

The surplus remaining after deducting total costs from total revenues, including both explicit and implicit costs, and representing a measure of economic efficiency.