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Working Capital ManagementWorking capital managementPayablesSection B
This question is part of a case study — click to read the full scenario(Case 16)

Section B - Case 1: AquaHarvest Ltd

Scenario: AquaHarvest Ltd is a commercial aquaculture firm. Annual demand for their specialized fish feed is 50,000 kg. The cost of placing an order is $200. The holding cost is $0.50 per kg per year. The supplier currently charges $10 per kg but has offered a 2% bulk discount if AquaHarvest orders in quantities of 15,000 kg or more. AquaHarvest's current working capital metrics are: Receivables $400k, Payables $300k, Revenue $4m, Purchases $2m.

Ignoring the bulk discount for a moment, what is the Economic Order Quantity (EOQ) for the fish feed?

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ACCA · Question 17 · Working Capital Management

Section B - Case 1: AquaHarvest Ltd

Scenario: AquaHarvest Ltd is a commercial aquaculture firm. Annual demand for their specialized fish feed is 50,000 kg. The cost of placing an order is $200. The holding cost is $0.50 per kg per year. The supplier currently charges $10 per kg but has offered a 2% bulk discount if AquaHarvest orders in quantities of 15,000 kg or more. AquaHarvest's current working capital metrics are: Receivables $400k, Payables $300k, Revenue $4m, Purchases $2m.

AquaHarvest's feed supplier offers early settlement terms of 1.5% discount if payment is made within 10 days, otherwise net 40 days.

Assuming a 365-day year, what is the annualized cost of not taking the early settlement discount?

Answer options:

A.

13.69%

B.

18.25%

C.

20.24%

D.

22.50%

How to approach this question

Use the annualized discount formula: [ (1 + (d / (100-d))) ^ (365 / t) ] - 1. Where d is the discount percentage and t is the reduction in payment days.

Full Answer

C.20.24%✓ Correct
The annualized cost of a discount represents the effective interest rate of turning down the discount to keep the cash longer. Formula: $R = \left(1 + \frac{d}{100-d}\right)^{\frac{365}{t}} - 1$ $d = 1.5$ $t = 40 - 10 = 30$ days $R = \left(1 + \frac{1.5}{98.5}\right)^{\frac{365}{30}} - 1$ $R = (1 + 0.015228)^{12.1667} - 1$ $R = 1.015228^{12.1667} - 1 = 1.2024 - 1 = 0.2024$ or 20.24%.

Common mistakes

Using simple interest instead of compound interest, or dividing the discount by 100 instead of (100 - discount).
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