Short Term Financing

The Danish Company needs to increase its working capital by Rs600,000. The following three alternatives are available are available (assume 360-days in a year).

a)A factor will buy the company's receivables which have an average collection period of 30 days and factor will advance up to 85% of face value of the receivable at 18% on an annual basis. Company's sale is amounted to Rs9,000,000 p.a of which 80% on credit basis.

The factor will also charge a 5 % fee on all receivable purchased. It has been estimated that the factor's services will save the company Rs25,000 per month.(consisting of both credit department expenses and bad debt expenses)

b)Borrow from a bank at 15% p.a, 180 days loan. This alternative would necessitate maintaining 10% compensating balance.( use discount interest method )

Required: Which alternative should Danish Company select? Why?