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In January 2008, Inc. Magazine, “short of money?” in Finance: Cash Flow column, the case was made to discount factors were comparable annual interest rate of 12 times factoring yields. This hypothetical 12 times interest is then compared to a bank loan at a competitive annual. For this article meant that monthly factoring discount of 2% is equivalent to 24% annual return. This is actually a misleading comparison of apples and oranges. In fact, 2% elements yield equivalent to 2% annual return, but to understand what we need to go into some detail.
The Standard 2% Net 10 Supplier Discount
We will start with the situation with typical supplier discount to its customers, 2% net 10. This is where the supplier has offered to self-factor Customers with a 2% discount on the invoice price if they pay within 10 days. In this first example, the customer takes the discount and pay by day 10. So, the client pays the customer $ 1,000 less 2%, or $ 20, for a net payment of $ 980 per day 10.
Let’s calculate the effective interest rate path submissions. Use this same mathematical logic, to ten days at a time on this 2% ten days is equivalent to the rate of 6% at 30 days, and 6% times 12 months, 72% for the year. Now 72% of the $ 1000 $ 720, so based on this argument, how the customer was paying $ 980, and not just $ 280? The answer is simple, the money was only used by customers in 10 days, not in a year, and factoring discount is not interest rates but charge for the use of money under specified terms 2% net 10
Now let’s consider this happens once a month. So in the end, the client sends twelve notes for a total of $ 12,000 to the customer. Each month the client was 2% discount and maintained a total of $ 240 a year. Now, $ 240 is what percent of the $ 12,000? The answer is 2%. So in this case self-membered client yield of 10% pure 2 equates to annual interest rate of 2% and not 72% or 24%.
Receivables Factoring
But what if our client not take 2% Net 10 terms and instead pay later? Some customers ignore all customers 2% net 10 terms and pay when they want, which can be 30, 45, 60 or even 90 days. If the customer does not accept the terms of the customer, the customer buys the rest from someone who will. Or for some companies, especially the larger ones, systems and cash management processes make it very difficult to pay less than 30-90 days. So if a customer wants to large customer business, they must accept the terms of the customer. In this case we will use 30 days.
What is the real cost factors? Let’s describe the main scenario first and then look at comparative costs. The supplier has a contract with a factor and has become a customer is a factor. In this scenario we will factor accounts of $ 1,000 per month in 5% yield and 80% in the payment of the invoice amount upon verification of a factor with 20% hold back until the bill is paid by the customer client.
So under the terms of the factoring agreement, instead of waiting 30 days, the customer has sold the account, the face amount of $ 1,000 to the factor. The factor will pay the customer $ 800 less $ 50 (5% discount) delivery system and account verification. The remaining 20% is held back by a factor of where the customer pays the invoice in full. The client, or the debtor pays the account on the day of 30 episodes will pay the remaining $ 200 to the customer on day 30
This process is repeated every month. So the net effect is that every month the client components of a $ 1,000 account and receives from the aspect of $ 750 per day and $ 1 200 per day 30. So for a full year, $ 12,000 worth of invoices have been received a discount of $ 12 times 50, $ 600 or $ 600 is 5% of the total $ 12,000. So in 30 days eg discount factors are relatively equal rates. Thus, the yield of 5% not 60% and 5%.
So what is True Factoring Equivalent Interest?
The factors yield no interest but a fee for using the money, paid once the terms of the period in question. So when comparing factoring to bank loan annual interest rates, yields equivalent annual interest rate and not some multiple thereof. So 5% yield equivalent elements, five times twelve or 60%, but 5 times 1, or 5% annual return.
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