Alice’s second initiative calls for Fresh & Fruity to obtain a bank loan of a sufficient size to enable the company to take all suppliers’ discounts. What is the minimum size of this loan? (Hint: To take all suppliers’ discounts, the average payment period must be 10 days, and net purchases will be purchases – (Purchases from Figure 1 x .02). Assume that all this happens, and solve the following formula for the new accounts payable balance, using: Accounts payable = Average payment period x Purchase per day* *Based on net purchases/360. Now compare the accounts payable you just solved with the new accounts payable balance you found in question 3. The difference is the size of the loan that is required. Assume that Fresh &Fruity does obtain an 8 percent loan for one year in the amount you solved in question 5, and it reduces its accounts payable balance accordingly. Now the company is taking 2 percent discounts on all purchases and paying 8 percent a year on the loan balance. What is the net gain from taking the discounts and paying the interest on a before-tax basis? On an aftertax basis? Optional 3. Suppose the 8 percent loan that Fresh & Fruity obtained was a discount loan, and the bank further required a 20 percent compensating balance of the full loan amount. What is the effective rate of interest to Fresh & Fruity? How does this compare to your answer in question 2 for the cost of not taking a cash discount?

FINANCIAL ACCOUNTING

10th Edition

ISBN:9781259964947

Author:Libby

Publisher:Libby

Chapter1: Financial Statements And Business Decisions

Section: Chapter Questions

Problem 1Q

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Optional

3. Suppose the 8 percent loan that Fresh & Fruity obtained was a discount loan, and the bank further required a 20 percent compensating balance of the full loan amount. What is the effective rate of interest to Fresh & Fruity? How does this compare to your answer in question 2 for the cost of not taking a cash discount?

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