Question

Russo Company purchased merchandise with an invoice price of $3,000 and credit terms of 1/10, n/30. Assuming a 360 day year, what is the implied annual interest rate inherent in the credit terms?

Answer 1

The implied annual interest rate inherent in the credit terms of 1/10, n/30 offered by Russo Company is 18%. This is calculated by considering the loss of a 1% discount over the 20-day credit extension period and annualizing it over a 360-day year.

Step-by-step explanation:

The question involves calculating the implied annual interest rate of the credit terms offered by Russo Company. The credit terms are 1/10, n/30, which means that the company offers a 1% discount if the invoice is paid within 10 days; otherwise, the net amount is due in 30 days. To calculate the implied interest rate, we need to consider the loss of the discount for the period of credit extension beyond the discount period.

Here is the calculation for the implied annual interest rate:

• The discount offered is 1%, so if the customer does not take the discount, they are effectively paying 1% more for extending the credit 20 days longer (30-10 days).
• To annualize this, we would multiply by the number of 20-day periods in a year, which is 360/20 = 18.
• The annualized rate is then 1% * 18 = 18%.

Therefore, by not taking the discount, the customer is effectively paying an annual interest rate of 18%.