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Financing foreign operations - credit risk

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Please work problems; formula and showing how to solve problem is most important (so I can see how to solve similar problems). Thanks

Texas Computers (TC) recently has begun selling overseas. It currently has thirty foreign orders outstanding, with the typical order averaging $2,500. TC is considering the following three alternatives to protect itself against credit risk on these foreign sales:

Request a letter of credit from each customer. The cost to the customer would be $75 plus 0.25 percent of the invoice amount. To remain competitive, TC would have to absorb the cost of the letter of credit.

Factor the receivables. The factor would charge a nonrecourse fee of 1.6 percent.
Buy foreign credit insurance. The insurer would charge a 1 percent insurance premium.

a. Which of these alternatives would you recommend to Texas Computers? Why?

b. Suppose that TC's average order size rose to $250,000. How would that affect
your decision?

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Solution Summary

The solution explains how to decide between a letter of credit or factoring receivables or buying foreign credit insurance

Solution Preview

Let us compare the costs of the three alternatives

1. Order size 2500

Letter of Credit Factor Insurance
Cost 0.25%+75 ...

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