When Trade Discounts are a Bad Idea

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Digital Library > Acquiring and Managing Finances > Cash management"When Trade Discounts are a Bad Idea"

Before you accept a trade discount, take a moment to consider that discounts are, essentially, loans. The trick is determining whether it's beneficial to you.

Rule of thumb: Trade discounts of 1% or more are worth taking advantage of when suppliers' full payment terms are 30 days or less. For vendors with terms in excess of 30 days, it may be in your best interest to forgo the discount and wait to make full payment until the due date.

Apply the following formula, easily built in a spreadsheet such as Excel, to consider the annualized interest rate you would earn by taking advantage of the trade discount:

  • The formula in cell A3 is:
    =SUM((B3/(100-B3))*(360/(C3-D3))
  • Enter the numbers for the discount percentage rate (B3)
  • Enter the number of days of credit for full payment (C3)
  • Enter the number of days you have to receive the discount (D3)

Once you've completed all of the steps, the number that appears in Cell A3 represents the annual interest rate equivalent. You can now compare that rate to the interest rate charged by your bank to borrow money. If the annualized interest rate in the formula is greater than that charged by your bank, the discount should be taken.

Source: CCH Business Owner's Toolkit, CCH Inc., 1999, www.toolkit.com.

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