Q1. If Mr Sykes changes to commercial contracts, he expects sales for the next year to be £75,000, with customers paying within the 30-day limit set. It would cost him £2,000 per annum to employ someone one day a week to invoice customers and collect debts for him. Alternatively, his local bank has offered to provide a factoring service for him, including the advance of 80% of his sales invoices. They would charge 2% of turnover for the administration and charge interest of 8% per annum on advances. However, the bank would not invoice Mr Sykes’ customers. He would need to employ somebody for half a day a week to do this, at a cost of £1,000 per annum.Mr Sykes pays interest at the rate of 10% per annum on his overdrawn bank account.

Mr Sykes thinks that customers will pay within 30 days regardless of which option is selected.Required:Calculate and recommend whether or not Mr Sykes should factor his debts. (9 marks)

Q2. Duel Fuel is an energy company that buys gas in bulk and sells it to the main market providers in the UK. The company’s credit control department is poorly run at present, following the resignation six months ago of the credit controller. Poor credit control has had a serious effect on the company’s overdraft, which currently stands at £5 million, compared to £3 million at the same time last year. This, in turn, is pushing up interest costs.The company is therefore considering factoring its debts to improve its cash flow and reduce costs.Credit sales for the last year totalled £8·5 million, with average debtors of £4·3 million. Next year, sales are expected to be 20% higher, and debtor days are expected to remain the same if the factoring arrangement is NOT entered into.A factoring company has put forward the following proposal to Duel Fuel Ltd:(i) The factor would immediately advance 70% of the value of sales invoices.(ii) The factor will charge interest of 12% per annum on the advances.(iii) The factor will charge an administration fee of 1·5% of turnover for the service.(iv) Debtor days will be reduced to 60 days, the industry norm, as a result of stricter credit control procedures Should Duel Fuel Ltd enter into the agreement, it will make both of the credit control staff redundant. They earn salaries of £14,000 per annum each, but they will both be paid a redundancy package of £3,000 each.Current bank overdraft rates are 9% per annum.Required:(a) Calculate for the coming year whether it is financially viable for Duel Fuel Ltd to factor its debts. (10 marks)(b) Identify five advantages of factoring. (5 marks)(c) List five functions that a credit control department may undertake. (5 marks)

(20 marks)

Q3. A company manufactures and distributes a range of cosmetic products to a wide variety of small retailers. The business has recently been expanding and the company is beginning to experience cash flow difficulty. The bank manager has expressed her concern regarding the company’s continued high overdraft level and as a result, the managing director has decided that action must be taken immediately to improve the cash flow position.Credit sales for the year ending 31st December 20X8 were £1,650,000 and average receivables during the period were £490,000. The managing director initially wishes to review the working capital requirement, with a view to identifying the areas for corrective action. Following this initial review, he needs to have a proposal evaluated from the factoring institution, Finance Inc.The details of the factoring proposal are as follows.i. Finance Inc is prepared to provide factoring services to the company and advance 80% of the

value of sales advances. ii. Finance Inc will charge 1% of turnover for factoring services at an interest rate of 15% per

annum on advances.iii. It is expected that if company use the factoring services, it can reduce its administration cost up

to £25,000.iv. Sales are expected to remain same at 20X8 level for the foreseeable future. As a result of

stricter control on customer, it is expected that average receivable days will reduce to 90 days.Current overdraft rate is 13%Required:

i. Calculate whether factoring services are financially beneficial for the company or not.ii. Identify and discuss six other actions that could be taken by the company in the

management of its receivable and its inventories to reduce the operating cycle.

Q4. A company manufactures and distributes different products to different areas of the city. The business has recently been expanding and the company is beginning to experience cash flow difficulty. The finance manager has advised the company that factoring services could be used to overcome the problem regarding receivable actual credit time period. Company is currently offering 30 days credit period but due to inefficiency of credit recovery department, actual collection time period is 50 days.

Credit sales for the year ending 31st December 20X8 were £2,000,000 but sales are expected to grow by 25% in coming year. Manager is confident that receivable days could be reduced to 30 days if company consider services of factor plus sue to efficiency of factor company can terminate 3 administration staff to whom company is currently paying £8,000 per annum.

Factor has asked for the following charges from the company

i. It will support 80% advances at interest charge of 10% per annum.

ii. It will charge factoring fee equals to 2% of sales value.Current overdraft rate is 8%Required:Calculate whether factoring services are financially beneficial for the company or not.

Advantages of factoring(i) Managers can concentrate on running the business rather than spending time dealing with problems relating to slow paying debtors.(ii) The factor will run the company’s sales ledger department, hence cutting running costs in this area.(iii) The company’s cash flow position is improved, such that the company can pay its suppliers promptly and benefit from early payment discounts.(iv) The finance costs of the business are linked to its sales levels and will therefore only increase as sales levels increase.(v) Expansion can be financed through sales, rather than through increased debt or any injection of capital.(vi) Optimum stock levels can be maintained, since the cash is readily available for injection.(vii) Insurance against the company’s bad debts is provided, since the factor takes over the risk of these losses if the agreement is a ‘without recourse’ agreement.

Managing receivables through discount Q5. A company has external sales of £12,000,000 and three months are allowed for payment. The company decides to offer a 2% discount for payments made within ten days of the invoice being sent and to reduce maximum time allowed for payment to two months. It is estimated that 50% of the customers will take the discount. If the company requires 20% return on investments, what will be the effect of discount? Assume that volume of sales will not be affected by the discount scheme.

Q6. A company has external sales of £12,000,000 and two months credit period are allowed for payment. Management are considering the introduction of an early settlement discount of 2%, which if introduced, is expected to reduce the receivable collection period to one month. The company will invest surplus funds to earn return of 30%.Advice the company whether to introduce settlement discount or not?

Q7. The company decides to offer a 2% discount for payments made within ten days of the invoice being sent and to reduce maximum time allowed for payment to two months. It is estimated that 50% of the customers will take the discount. If the company requires 20% return on investments, what will be the effect of discount? Assume that volume of sales will not be affected by the discount scheme.