Modern Kitchenware Co. Case 6
Cash Discount
Purpose: The case illustrates how the offering of a cash discount can affect the profitability of the firm.
Three different cash discount policies are evaluated in terms of cost, freed up funds and the associated
profitability. The impact of a cash discount on sales volume is also considered and has an impact on the
final decision in the case.
Relation to Text: The case should follow Chapter 7.
Complexity: The case is moderately complex. It should require 1 hour.
Solutions
1. Midpoint of
Days Outstanding Weights
Weighted Number
of Days
5 .010 .050
15 .075 1.125
2. 1/10, net 30 Policy
2/10, net 30 Policy
3/10, net 30 Policy
3. Accounts receivable = average collection period x average daily credit sales
1/10, net 30 policy 28 days x $54,274 = $1,519,672
4. Cost of cash discount: Total credit sales x percent using the discount x % discount.
Total
Percent
Using the
Percent
Cost of Cash
5. Old accounts receivable – new accounts receivable = freed up funds
1/10, net 30 policy
$2,000,000 – $1,519,672 = $480,328
6. The return is equal to the freed up funds times 18%
1/10, net 30 policy $ 480,328 x 18% = $ 86,459
7. Returns on freed up funds – cost of cash discounts = profit or loss
Return on
Freed up Funds
Cost of Cash
Discount
Profit
(loss)
8. Increased profitability of Alternative 2 (2/10, net 30) under the assumption of a $1,000,000
increase in sales.
Increased Sales……………………………………………………………… $1,000,000
Profit Margin………………………………………………………………… 9%