AICPA Exam CPA-Business Topic 3 Question 91 Discussion

Actual exam question for AICPA's CPA-Business exam

Question #: 91
Topic #: 3

The Frame Supply Company has just acquired a large account and needs to increase its working capital by $100,000. The controller of the company has identified a source of funds which is given below:

Pay a factor to buy the company's receivables, which average $125,000 per month and have an average collection period of 30 days. The factor will advance up to 80 percent of the face value of receivables at 10 percent and charge a fee of 2 percent on all receivables purchaseD. The controller estimates that the firm would save $24,000 in collection expenses over the year. Assume the fee and interest are not deductible in advance.

Assume a 360-day year in all of your calculations.

The cost of factoring is:

A12.0 percent.

B14.8 percent.

C16.0 percent.

D20.0 percent.

Show Suggested Answer

Suggested Answer: A

Choice 'a' is correct. 7.0 percent cost of funds from retained earnings.

The cost of retained earnings is equal to the rate of return required by the firm's common shareholders (or, in effect, the return 'lost' by them when the firm chooses to fund with retained earnings). While oftentimes this rate is somewhat subjective, we are given the facts to exactly answer the question in this case. The stock is currently selling for $100/share, and the dividend is given at $7/share.

$7 / $100 = 7%

Choices 'b', 'c', and 'd' are incorrect, per the above Explanation:/calculation.

by Annmarie at Jun 29, 2024, 06:45 PM

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Alison

1 months ago

Guys, I think we're all forgetting the most important factor here: the 360-day year. That's gotta be the key to cracking this question!

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Trina

2 months ago

Wait, are we sure this isn't a trick question? Maybe the right answer is actually A) 12.0 percent, and the controller is just trying to confuse us!

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Gaston

23 days ago

B) 14.8 percent.

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Marylyn

1 months ago

I think you might be onto something there.

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Dorathy

1 months ago

A) 12.0 percent.

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Dyan

2 months ago

You all are overthinking this. The answer is clearly D) 20.0 percent. Who cares about the collection expenses? The factor is taking 80% of the receivables and charging 10% interest plus a 2% fee. That's 20% total, end of story.

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Joanne

9 days ago

No need to complicate things, the cost of factoring is simply 20.0 percent. Let's keep it simple.

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Ceola

13 days ago

But what about the collection expenses we would save over the year? Shouldn't we take that into consideration?

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Helga

1 months ago

I think you're right, D) 20.0 percent does seem to be the correct answer.

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Joseph

2 months ago

I'm going to have to disagree with you guys. I think the answer is C) 16.0 percent. The interest rate is 10%, and the fee is 2%, so that adds up to 12%. But then you have to factor in the savings of $24,000 in collection expenses, which brings the total cost down to 16.0 percent.

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Carlota

6 days ago

I'm not sure about that. I think the answer is A) 12.0 percent. The interest rate and fee total 12%, and with the savings factored in, the cost should be 12.0 percent.

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Kate

19 days ago

I see your point, but I still believe the answer is D) 20.0 percent. The interest rate and fee add up to 12%, and when you include the savings, the total cost would be 20.0 percent.

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Yong

1 months ago

I think the answer is B) 14.8 percent. The interest rate is 10%, and the fee is 2%, so that adds up to 12%. But then you have to factor in the savings of $24,000 in collection expenses, which brings the total cost down to 14.8 percent.

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Jesusa

2 months ago

Hmm, let me think this through. The factor is taking 80% of the $125,000 receivables, which is $100,000. At 10% interest, that's $10,000. Plus the 2% fee on $125,000 is $2,500. Yep, B) 14.8 percent is the right answer.

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Casey

2 months ago

I'm pretty sure the answer is B) 14.8 percent. The factor will advance 80% of the receivables at 10% interest, and charge a 2% fee. That adds up to 14.8% total cost.

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