Question

# The Bone Company Ltd. has been factoring its accounts receivable for the past five years. The...

The Bone Company Ltd. has been factoring its accounts receivable for the past five years. The factor charges a fee of 2 % and will lend up to 80 % of the volume of receivables purchased for an additional 1.5 % per month. The firm typically has sales of \$500,000 per month, 70 % of which are on credit. By using the factor, the company saves \$2,000 per month that would be required to support a credit department, and saves a bad-debt expense of 1% on credit sales. The firm's bank has recently offered to lend the firm up to 80 % of the face value of the accounts receivables shown on the schedule of accounts receivable. The bank would charge 15 % per annum interest plus a 2 % monthly processing charge per dollar of receivables lending. The firm extends terms of net 30, and all customers who pay their bills do so by the thirtieth day.

Required:

Should the firm discontinue its factoring arrangement in favour of the bank's offer if the firm borrows, on the average, \$100,000 per month on its receivables?

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 Adding opportunity cost of loss on savings by Not factoring a cost of credit department 2,000 b bad debt expense=credit sales x 1%=\$350,000 x 1% 3,500 Total cost for factoring arrangement per month 8,750 So the firm should continue with factoring arrangement as the costs per month for factoring arrangement at \$8,500 is less than the costs per month for bank financing arrangement for receivables at \$8,750

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