A material supplier offers terms of 2/10 net 30. If an invoice is $15,000, what is the effective annual interest rate of not taking the discount?
Correct Answer
D) 36.7%
The discount is 2% for paying 20 days early (30-10=20). The formula is: (2%/(100%-2%)) × (365/20) = (2%/98%) × 18.25 = 36.7% effective annual rate.
Why This Is the Correct Answer
Option B (36.7%) correctly calculates the effective annual interest rate using the proper formula for trade credit terms. The calculation accounts for the 2% discount foregone, the adjusted principal amount (98% since 2% discount is lost), and annualizes the rate over the 20-day difference between discount and net payment periods. This represents the true cost of financing by not taking the early payment discount.
Why the Other Options Are Wrong
Option A: 24.5%
12.0% is significantly too low and may result from using an incorrect time period (possibly 30 days instead of 20) or failing to properly annualize the rate.
Option C: 12.0%
24.5% is incorrect because it likely uses an improper calculation method, possibly not accounting for the compounding effect or using the wrong time period in the annualization formula.
Memory Technique
Remember 'D-A-D': Discount rate, Adjusted principal (100% minus discount), Days difference - then multiply by 365/days to annualize.
Reference Hint
Look up 'Trade Credit Terms' or 'Cash Discount Calculations' in the business finance or accounting sections of construction management references.
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