Cooley Industries needs an additional $500,000, which it plans to obtain through a factoring arrangement. The factor would purchase Cooley’s accounts receivable and advance the invoice amount, minus a 2 percent commission, on the invoices purchased each month. Cooley sells on terms of net 30 days. In addition, the factor charges a 12 percent annual interest rate on the total invoice amount, to be deducted in advance.
a. What amount of accounts receivable must be factored to net $500,000?
b. If Cooley can reduce credit expenses by $3,500 per month and avoid bad debt losses of 2.5 percent on the factored amount, what is the total dollar cost of the factoring arrangement?
c. What would be the total cost of the factoring arrangement if Cooley’s funding needs rose to $750,000? Would the factoring arrangement be profitable under these circumstances?