Question

Please write 4 paragraphs with each paragraph containing 50-60 words.

7. What are the advantages and disadvantages of the two methods used to convert accounts receivable to cash?

Answer 1

Accounts Receivables form key part of Working Capital of the firm. The earlier the realisation of the Accounts Receivables, the better the cash flow and thus the Workinag Capital churning. Hence, this forms critical component interms of fund requirements, financing for working capital requirements of the firm.

Financing / Fund raising has different channels to opt for for any business, depending on its requirements, urgency, its fund raising capacity etc.

Short term financing can be availed thru pledging of the accounts receivables with a financial institution and can get money to the extent of amount after considering risk factor (it ranges from either 75% - 80% of accounts receivables can be offered as financing); However, this short term financing can be taken only if the company has potential chances to pay off the debt and its interest payments as well. Also, the procedure for availing short term financing is a bit time consuming as it involves credt appraisals, business projections etc.

Accounts Receivables Financing, is a typical small term finance, based on which the lending shall happen to the firm based on the Receviables outstanding and with a priority collection charge on the receivables. In this case, the liability shall be with the firm to ensure collections in to the earmarked account. And liability shall remain on the firm.

Factoring: This is a process introduced to mitigate the operational difficulties being faced in the above. Factoring is a financial service in which a business sell its accounts receivables to the Factoring agent at the discounted price. This shall give immediate funding to the company and it is the now with the factoring agent to collect and make money out of the accounts receivables. This is the quickest possible way of working capital financing, ofcourse,with some cost factor, involved as a commission to the Factoring agent.