A firm has a total sale of 200 lakhs of which 80% is on credit. It is offering credit terms of 2/40, net 120. Of the total, 50% of customers avail…

Particulars (₹) Total Sales 200 lakhs Credit Sales (80%) 160 lakhs Receivables for 40 days (50% of customers) 80 lakhs Receivables for 120 days (50% of customers) 80 lakhs Average collection period [(40 x 0.5) + (120 ×0.5)] 80 days Average level of Receivables (₹ 1,60,00,000 × 80/360) 35,55,556 Factoring Commission (₹ 35,55,556 × 2/100) 71,111 Factoring Reserve (₹ 35,55,556 × 10/100) 3,55,556 Amount available for advance {35,55,556 - (3,55,556 + 71,111)} 31,28,889 Factor will deduct his interest @ 18%: Interest = (₹ 31,28,889 × 18 × 80) / (100 × 360) 1,25,156 Advance to be paid (₹ 31,28,889 - 1,25,156) 30,03,733 (i) Statement Showing Evaluation of Factoring Proposal ₹ A. Annual Cost of Factoring to the Firm: Factoring commission (₹ 71,111 × 360/80) 3,20,000 Interest charges (₹ 1,25,156 × 360/80) 5,63,200 Total 8,83,200 B. Firm's Savings on taking Factoring Service: ₹ Cost of credit administration saved 2,40,000 Bad Debts (₹ 1,60,00,000 × 1.5/100) avoided 2,40,000 Total 4,80,000 C. Net Cost to the firm (A – B) (₹ 8,83,200 - 4,80,000) 4,03,200 Effective cost of factoring = (₹ 4,03,200 /30,03,733) × 100 = 13.42% * If cost of factoring is calculated on the basis of total amount available for advance, then, it will be = (₹ 4,03,200 /31,28,889) × 100 = 12.89% (ii) If Bank finance for working capital is available at 12%, firm will not avail factoring service as 12% is less than 13.42% (or 12.89%)