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Business scenario: Your business does about $1
Business scenario: Your business does about $1.5 million in business, with sales equally spread throughout the year. Your average invoice size is about $26,000. You give all of your customers credit terms of Net 30 days, but most of your customers pay on 45 days. You need working capital to take on new orders, so you approach Slick Willy Factoring to get some cash. Slick Willy says that he will advance you 97% of the face value of any invoice. The customers will have to pay Slick Willy back the full amount of the invoice and he says he will charge you an additional 0.5% for each week that a customer is late in paying. Further, he will charge you $2,000 per month "standby" fee for his services plus a transaction fee of $150 for each invoice. Assuming you factor all of your receivables in the coming year, how much in total dollars will your financing arrangement with Slick Willy cost? How much will that be in terms of the interest rate you are paying on the funds you actually receive? Hint: Interest calculations should be based on the money you actually receive
Expert Solution
Total Annual Sales = $ 1,500,000, Average Invoice Value = $ 25,000, Credit period = net 30 days
Average collection period = 45 days
Delay in payment = 45-30 = 15 days or 2 weeks
Amount Factor will pay = 97% of invoice value
Amount received from factor = $ 25000 * 60 * 97% = $ 1,455,000
Charges for late payment = 0.5% per week
Standby fee = $ 2000 per month
Transaction fee = $ 150 per Invoice
Total Number of Invoices raised in a year = $ 1,500,000 / $25,000 = 60
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Total Sales |
$1,500,000 |
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Less |
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Amount charged for factoring |
(1,500,000 – 1,455,000) |
$ 45,000 |
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Charges for late payment |
60 * 25000 *0.5% * 2 weeks |
$ 15,000 |
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Standby Fee |
$ 2000 * 12 |
$ 24,000 |
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Transaction Fee |
$ 150 * 60 |
$ 9,000 |
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Total amount charged by Factor |
$ 93,000 |
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Net Amount receivable |
$1,407,000 |
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Interest cost of factoring services = ($ 93,000 / $ 1,500,000) * 100 = 6.20%
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