Quickbow Company currently uses maximum trade credit by not taking discounts on its purchases.Quickbow is considering borrowing from its bank, using notes payable, in order to take trade discounts.The firm wants to determine the effect of this policy change on its net income.The standard industry credit terms offered by all its suppliers are 2/10, net 30 days, and Quickbow pays in 30 days.Its net purchases are R11,760 per day, using a 360-day year.The rate on the notes payable is 10 percent and the firm's tax rate is 40 percent.If the firm implements the plan, what is the expected change in Quickbow's net income?

Question

Quizplus · Accepted Answer

The firm will save 2% on its purchases by taking the trade discount. This will increase its net income by R23,520 (2% x R11,760 x 360 days). However, the firm will also have to pay interest on the notes payable. The interest expense will be R3,648 (R11,760 x 360 days x 10%). The net effect of these two changes will be an increase in net income of R23,520 - R3,648 = R19,872. After taxes, the increase in net income will be R19,872 x (1 - 0.40) = R11,923.

Quickbow Company Currently Uses Maximum Trade Credit by Not Taking