Question

The Delta Fish Hatchery factors its accounts receivables immediately at a discount rate of 1.2 percent. The average collection period is 36 days. Assume all accounts are collected in full. What is the effective annual interest rate on this arrangement?

Answer 1

To find the effective annual interest rate (EAR) for the Delta Fish Hatchery's factoring arrangement, we calculate the periodical interest for a 36-day period and then compound it across the number of 36-day periods in a year.

Step-by-step explanation:

To calculate the effective annual interest rate (EAR) for the Delta Fish Hatchery's factoring arrangement, we first determine the periodic interest rate and then convert it to an annual rate. The discount rate given is 1.2 percent and the period is 36 days. The EAR can be found using the formula for compounding interest over multiple periods within a year.

First, we convert the discount rate to a decimal by dividing by 100, which gives us 0.012. Then, we find out how many 36-day periods there are in a year (365 days) by dividing 365 by 36, which gives us approximately 10.14 periods. Now, we use the formula to calculate the EAR:

EAR = (1 + Periodic Rate)Number of Periods - 1

So for this case:

EAR = (1 + 0.012)10.14 - 1

Now, calculate the EAR using your calculator to find the effective annual interest rate. Remember, the EAR accounts for the effect of compounding within the year.