Question

please answer with details:

Q- International Electronic Products Ltd. (IEP) have sales revenue of€365m p.a. earned evenly throughout the year. They offer all customers 30 days credit, half of whom adhere to the terms, while the other half takes an average of 70 days credit. The business is considering offering a 2% discount to all customers who adhere to the 30 days credit term. Market research shows that this 2% discount offer will result in half of those who pay in 70 days paying in 30 days, but the balance will still take 70 days. But importantly, the scheme is also expected to reduce bad debts by €300,000 per annum.

i- Calculate the cost / benefit of this proposal, if IEP are currently paying 12% per annum interest on a continuing overdraft of approx €50m.

ii- Comment on whether should IEP go ahead with the proposed scheme?

Answer 1

There is three group of customer.
	Group 1	Group 2	Group 3
Remarks	365/2	182.5/2	182.5/2
Sales to customer in millions	182.5	91.25	91.25
Credit period
Before discount policy	30 days	70 days	70 days
After discount policy	30 days	30 days	70 days
Discount allowed @ 2%	Yes	Yes	No
Saving in interest cost From Customer due to discount policy	No	Yes	No
Remarks	This group already paid within 30 days, nothing is change due to discount policy.	This group paid within 30 days due achieve discount. It means 70-30 = 40 days early payment received from customer. Result in to saving in interest cost	This group does not want to take benefits of discount even if discount policy.

Cost benefits analysis for Discount policy.
Saving
Saving in interest cost (From Group 2) (91250000*12%*(40/365))	1,200,000
Saving due to decrease in bad debts expense	300,000
Total saving	1,500,000
Cost
Discount allowed (Group 1 and Group 2) ((182500000+91250000)*2%)	5,475,000
Net cost (5475000-1500000)	3,975,000
Company should not go with proposal scheme because result in to net cost 3975000