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June 30, 2022 at 2:11 am
Thank you for the wonderful lecture. Just wanted to check my understanding of the logic and terminology here, for the question in Example 1, is it correct to say that we are comparing between the Compound discount rate over a year (or per annum) and the simple interest rate from overdraft per annum?
Thanks in advance for your feedback.
John Moffat says
June 30, 2022 at 7:57 am
Not really. We compounded the monthly cost of the discount to get the equivalent annual rate so as to compare with the overdraft annual rate.
(I wouldn’t really worry about the terminology here anyway for Paper FM)
April 7, 2022 at 4:48 pm
Hi sir, does the effective cost p.a. mean the cost of the discount + interest cost of reduced overdraft together?
April 8, 2022 at 9:22 am
No it doesn’t. It is the effective interest cost of offering the discount which we can then compare with the overdraft interest rate.
April 8, 2022 at 3:21 pm
So if the question asked (in absolute terms) should we offer the discount, we would take the 20% x old receivables VS 27.76% x new receivables?
November 26, 2021 at 1:57 pm
Mr. Moffat, why did you use TWO months not THREE months since it was THREE months given in the question??????
November 26, 2021 at 2:04 pm
I’m sorry, I just figured out right now and unfortunately I can’t delete my comment, my apologies….
November 26, 2021 at 3:47 pm
No problem 🙂
November 26, 2021 at 3:46 pm
The period is reduced by 2 months – from 3 months down to 1 month.
August 10, 2021 at 12:07 am
Hi Mr Moffat. I hope you are well. in the second example that you showed i entered 1/99 on my calculator but it is giving me 0.01. How do i get the same figure as you got?
August 10, 2021 at 7:13 am
Maybe you have set your calculator to round to 2 decimal places, but 1/99 is certainly equal to 0.010101 (and not 0.01).
You are going to have to look at the instruction manual that came with your calculator.
August 6, 2021 at 4:09 am
Sir, i don’t understand the comparision without mutiplying the effective cost by time factor.
e.g. 27.75%>20% instead of 1/12* 27.75% < 3/12*20%
August 6, 2021 at 9:19 am
We are comparing the equivalent annual % cost of the discount with the annual % cost of the overdraft.
August 7, 2021 at 8:58 am
Yes, Sir. But when considering whether to offer the discount, should we take T/R days into account ? The 27.75% is only used for one month while the 20% is used for 3 months.
August 7, 2021 at 9:50 am
No – they are both being expressed as yearly costs.
August 9, 2021 at 2:16 am
Thank you Sir.
August 9, 2021 at 6:30 am
You are welcome 🙂
August 6, 2021 at 3:56 am
Sir, when i caculated the net cost in Example 1, i got two outcomes.
One was (3/12*12*20%-1/12*12*27.75%)-4%*12m= -157,500
The other one was 60/365*12m*20%-4%*12m= -85,479
I wondered which one was correct.
June 17, 2021 at 5:51 am
Sir. Why don’t we use like: 4.167%*6 because 4.167% in the example is equal to 2 months? When I multiple like that, it will equally to 12 months . Is there any misunderstanding in here 🙁
June 17, 2021 at 7:29 am
It is compound interest. Check back to the Paper MA (was F2) lectures if you have forgotten.
June 17, 2021 at 9:05 am
Yes, Sir. But why we cannot use the formula like in my examples. Is it because normally or in reality, people usually use compound interest instead of using simple interest, right Sir?
June 17, 2021 at 9:15 am
It is not a question as to what anyone might do in reality, it is calculating what the true interest cost per year is (which is what matters for the company).
June 17, 2021 at 9:35 am
June 17, 2021 at 4:06 pm
February 2, 2021 at 2:23 pm
Yet again, your explanations switching lightbulbs in my head. Thank you so much, Mr Moffat, for your concise explanations.
June 19, 2020 at 12:16 pm
Sir, I couldn’t understand the comparison of the Effective % cost with the overdraft interest of 20%. How does that tell us whether we should offer the discount or not?
June 19, 2020 at 2:54 pm
Getting money early means we can reduce our overdraft and save the overdraft interest. However giving the discount is costing money even though it saves interest.
June 25, 2020 at 7:18 am
Okay. got it .Thanks 🙂
June 25, 2020 at 9:08 am
March 17, 2020 at 8:18 pm
For example 2. How did we arrive at 10 days and 25 days. it’s nowhere in the question
June 18, 2020 at 5:45 pm
Its just his question not there in notes.
March 17, 2020 at 8:12 pm
For example 2, was 25 days and 10 days assumed. It’s nowhere in the question
November 1, 2019 at 11:18 am
Thanks Mr Mofatt for this lecture. Your explanation is always in place.
August 22, 2019 at 5:02 pm
I am a bit confused her with the first example.
From what I know, effective interest rate (R)= [(1+ i/n)^n] -1
My question is why didn’t you divide 0.04167 by 6 in the bracket? Any reason for that?
Here is what i mean
R= [(1+0.04167/6)^6] -1
August 22, 2019 at 5:14 pm
Why would be divide by 6??
The interest of 4.167% over 2 months. There are 6 periods of 2 months in a year and so if it was not for the fact that the interest was compounded, then the yearly interest would be
6 x 4.167%. Because it is compounded it is as I show in the lecture: (1.04167^6) – 1.
If you are still unsure about compounding then do watch the Paper MA lectures on interest, because this is revision from Paper MA (was F3).
November 3, 2019 at 2:37 pm
I agree with your approach and it makes sense, (I have watched the lecture from MA).
But why than your formula reveals the different results comparing to usual EAR formula: (R)= [(1+ i/n)^n] -1 ?
This formula is used everywhere, even in Excel by using the internal formula “Effect” for EAR I got 25,44% instead of your’s 27.7559%.
In Excel I used: =(EFFECT(0.04167,6)*6+1)*100 (for mine calculations with EAR formula) and =100*POWER(1.04167,6) – for yours.
February 8, 2020 at 4:16 pm
As per my understanding the formula is correct, but 4.167% over two months only not for per annum, therefore there is no need to divide by n as it is not given as annual interest rate.is this make sense?
June 13, 2019 at 9:48 am
we added 1 to the yearly rate in example 1 to get 1.04167 thats fine, but in the next question the yearly rate is 1.0101, when we add 1 to it it should be 2.0101 but you didnt add 1, may i ask why
May 19, 2019 at 11:15 am
If, for example, the monthly percentage was 1%, then adding on 1% each month is the same as multiplying by 1.01 each month – try it yourself with some made up numbers.
If you are still unsure that watch the Paper MA (was F2) lectures on interest.
February 15, 2019 at 7:30 am
Kindly help me to understand where $100 is coming from.
February 15, 2019 at 8:01 am
You could use any figure, but because they are %’s it is easiest to use $100. For every $100 that they invoice, $4 is discount.
Use X’s if you prefer!!
February 18, 2019 at 9:39 am
Thank you very much.
May 18, 2019 at 10:01 pm
Why do we add 1 to the percentage while calculating the annual cost
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