(Cost of factoring) A factor has agreed to lend the JVC Corporation working capi

Question

(Cost of factoring) A factor has agreed to lend the JVC Corporation working capital on the following terms: JVC's receivables average $95 comma 00095,000 per month and have a 90-day average collection period. (Note that JVC's credit terms call for payment in 90 days, and accounts receivable average $285 comma 000285,000 because of the 90-day average collection period.) The factor will charge 13.2013.20 percent interest on any advance (1.11.1 percent per month paid in advance) and a 22 percent processing fee on all receivables factored and will maintain a 2222 percent reserve. If JVC undertakes the loan, it will reduce its own credit department expenses by $2 comma 0002,000 per month. What is the annual effective rate of interest to JVC on the factoring arrangement? Assume that the maximum advance is taken. Note: Assume a 30-day month and 360-day year.

Explanation / Answer

Processing Fees = 2%*95000 = 1900

Reserve = 22%*95000 = 20900

Maximum advance = 95000 - 20900 - 1900 = 72200

Interest = 72200*1.1%*(90/30) = 2382.6

Advance = 72200 - 2382.6 = 69817.40

3 months rate = 2382.6 / 69817.40 = 3.41%

EAR = (1+3.41%)4 - 1 = 14.37%

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