Factoring 1

7/28/2019 Factoring 1

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FACTORING


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WHAT IS FACTORING ?Factoring is the Sale of Book Debts by a firm (Client) to a financial institution(Factor) on the understanding that the Factor will pay for the Book Debts asand when they are collected or on a guaranteed payment date. Normally, theFactor makes a part payment (usually upto 80%) immediately after the debtsare purchased thereby providing immediate liquidity to the Client.

PROCESS OF FACTORING

CLIENT CUSTOMER

FACTOR


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So, a Factor is,

a) A Financial Intermediaryb) That buys invoices of a manufacturer or a trader, at a discount,

and

c) Takes responsibility for collection of payments.

The parties involved in the factoring transaction are:-

a) Supplier or Seller (Client)b) Buyer or Debtor (Customer)c) Financial Intermediary (Factor)


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SERVICES OFFERED BY AFACTOR

1. Follow-up and collection of Receivables fromClients.

2. Purchase of Receivables with or withoutrecourse.

3. Help in getting information and credit line oncustomers (credit protection)

4. Sorting out disputes, if any, due to hisrelationship with Buyer & Seller.


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PROCESS INVOLVED INFACTORING

Client concludes a credit sale with a customer.

Client sells the customers account to the Factor and notifies the customer.

Factor makes part payment (advance) against account purchased, afteradjusting for commission and interest on the advance.

Factor maintains the customers account and follows up for payment.

Customer remits the amount due to the Factor.

Factor makes the final payment to the Client when the account is collectedor on the guaranteed payment date.


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MECHANICS OF FACTORING

The Client (Seller) sells goods to the buyer and prepares invoice with anotation that debt due on account of this invoice is assigned to and must bepaid to the Factor (Financial Intermediary).

The Client (Seller) submits invoice copy only with Delivery Challan showingreceipt of goods by buyer, to the Factor.

The Factor, after scrutiny of these papers, allows payment (,usually upto 80%of invoice value). The balance is retained as Retention Money (MarginMoney). This is also called Factor Reserve.

The drawing limit is adjusted on a continuous basis after taking into accountthe collection of Factored Debts.

Once the invoice is honoured by the buyer on due date, the Retention Moneycredited to the Clients Account.

Till the payment of bills, the Factor follows up the payment and sends regularstatements to the Client.


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CHARGES FOR FACTORINGSERVICES

Factor charges Commission (as a flat percentage of value of Debtspurchased) (0.50% to 1.50%)

Commission is collected up-front.

For making immediate part payment, interest charged. Interest is higherthan rate of interest charged on Working Capital Finance by Banks.

If interest is charged up-front, it is called discount.


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TYPES OF FACTORING

Recourse Factoring

Non-recourse FactoringMaturity Factoring

Cross-border Factoring


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RECOURSE FACTORING

Upto 75% to 85% of the Invoice Receivable is factored.

Interest is charged from the date of advance to the date of collection.

Factor purchases Receivables on the condition that loss arising on accountof non-recovery will be borne by the Client.

Credit Risk is with the Client.

Factor does not participate in the credit sanction process.

In India, factoring is done with recourse.


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NON-RECOURSE FACTORING

Factor purchases Receivables on the condition that the Factor hasno recourse to the Client, if the debt turns out to be non-recoverable.

Credit risk is with the Factor.

Higher commission is charged.

Factor participates in credit sanction process and approves creditlimit given by the Client to the Customer.

In USA/UK, factoring is commonly done without recourse.


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MATURITY FACTORING

Factor does not make any advance payment to the Client.

Pays on guaranteed payment date or on collection of Receivables.

Guaranteed payment date is usually fixed taking into accountprevious collection experience of the Client.

Nominal Commission is charged.

No risk to Factor.


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CROSS - BORDER FACTORINGIt is similar to domestic factoring except that there are four parties, viz.,a) Exporter,b) Export Factor,c) Import Factor, andd) Importer.

It is also called two-factor system of factoring.Exporter (Client) enters into factoring arrangement with Export Factor inhis country and assigns to him export receivables.Export Factor enters into arrangement with Import Factor and hasarrangement for credit evaluation & collection of payment for an agreedfee.Notation is made on the invoice that importer has to make payment to theImport Factor.Import Factor collects payment and remits to Export Factor who passes onthe proceeds to the Exporter after adjusting his advance, if any.Where foreign currency is involved, Factor covers exchange risk also.


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HSBC currently offers both domestic andinternational factoring products.

Domestic Factoring

Through this product, HSBC intention is to be an active partner in the management of company's supply/delivery chain. Throughdomestic factoring, It could look at financing companysreceivables from companys buyers. Additionally HSBC also

undertake to finance companys vendor/supplier payments .


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Contd.. Receivables Finance can be structured with on a WithRecourse Basis (where HSBC would be setting up lineson company) or on a Without Recourse Basis.

Payments of all company service and utility bills could be done through HSBCs Vendor Finance product.These could include for example, courier payments,electricity bills payments. Through this mechanism wewill pay out your service provider on the due date of theinvoice/bill and collect the money from you after a pre-determined credit period.


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INTERNATIONAL FACTORING Step Guide to International Factoring:

The importer places the order for purchase of goods with the exporter.The exporter requests the Export Factor for limit approval on the

importer.Export Factor in turn forwards this request to an Import Factor in theImporter's country.The Import Factor evaluates the Importer and conveys its approval to theExport Factor who in turn conveys Commencement of the Factoringarrangement to the Exporter.


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The exporter delivers the goods to the importer.Exporter produces the documents to the Export Factor.

The Export Factor disburses funds to the Exporter up to the prepayment amount decided and at the same time theforwards the documents to the Import factor and theImporter.On the due date of the invoice, the Importer pays the ImportFactor, who in turn remits this payment to the ExportFactor.The Export Factor applies the received funds to theoutstanding amount of the advance against the invoice. The

exporter receives the balance payment


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DISCLOSED AND UNDISCLOSEDFACTORING

Disclosed Factoring :The name of the factor is disclosed in theinvoice by thesuppliers-manufacturer of the goods asking the buyer tomakepaymentto the factor

Generally ,the factors assumes the risk under non-recoursearrangements .Limit as non-recourse is laid down inagreement beyond whichthe dealings are doneon a recourse base

In undisclosed factoring, the clientcustomers are not notified of the factoring arrangementThe client himself undertakes sales ledger administration andcollection of debts .Client has to pay the amount to the factor irrespective of whether customer has paid or not.


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advantages

Factoring provides a large and quick boost to cashflow.

Many factoring companies, so prices are usuallycompetitive.

Assists smoother cash flow and financial planning.Protected from bad debts ( non-recourse factoring)


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disadvantagesIt may reduce the scope for

other borrowing - book debts will not beavailable as security.

Factors will restrict funding against poor quality debtors or poor debtor spread, soyou will need to manage these fundingfluctuations.

It may be difficult to end an arrangementwith a factor as you will have to pay off anymoney they have advanced you on invoicesif the customer has not paid them yet.


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contd..

Some customers may prefer to deal directly withyou.

The cost will mean a reduction in your profitmargin on each order or service fulfillment.How the factor deals with your customers willaffect what your customers think of you.


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INDUSTRIES USE IT

a) Transportation b) Medicalc) Janitorial(the maintenance or cleaning of a building)d) Staffinge) Constructionf) Manufacturing

g) Service


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FACTORINGvs

BILLS DISCOUNTINGBILL DISCOUNTING1. Bill is separately examined

and discounted.

2. Financial Institution doesnot have responsibility ofSales Ledger Administrationand collection of Debts.

3. No notice of assignmentprovided to customers ofthe Client.

FACTORING1. Pre-payment made against

all unpaid and not dueinvoices purchased byFactor.

2. Factor has responsibility ofSales Ledger Administrationand collection of Debts.

3. Notice of assignment isprovided to customers ofthe Client.


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vsBILLS DISCOUNTING (contd)

BILLS DISCOUNTING4. Bills discounting is usually

done with recourse.

5. Financial Institution can getthe bills re-discountedbefore they mature forpayment.

FACTORING4. Factoring can be done

without or without recourse

to client. In India, it is donewith recourse.

5. Factor cannot re-discount

the receivable purchasedunder advanced factoringarrangement.


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STATUTES APPLICABLE TOFACTORING

Factoring transactions in India are governed by the followingActs:-

a) Indian Contract Act

b) Sale of Goods Act

c) Transfer of Property Act

d) Banking Regulation Act.

e) Foreign Exchange Regulation Act.


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FACTORING

Factoring is of recent origin in Indian Context.

Kalyana Sundaram Committee recommended introduction of factoringin 1989.

Banking Regulation Act, 1949, was amended in 1991 for Banks settingup factoring services.

SBI/Canara Bank have set up their Factoring Subsidiaries:-SBI Factors Ltd., (April, 1991)

CanBank Factors Ltd., (August, 1991).

RBI has permitted Banks to undertake factoring services throughsubsidiaries.


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WHY FACTORING HAS NOT BECOME POPULAR IN INDIA

Banks reluctance to provide factoring services

Banks resistance to issue Letter of Disclaimer (Letter ofDisclaimer is mandatory as per RBI Guidelines).

Problems in recovery.

Factoring requires assignment of debt which attracts Stamp Duty.

Cost of transaction becomes high.


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STAGES INVOLVED IN EXPORT FACTORING

Exporter (Client) gives his name, address and credit limit required to theExport Factor.

Export Factor submits the details of Buyer to the Import Factor.

Import Factor decides on the credit cover and communicates decision toExport Factor.

Export Factor enters into Factoring Agreement with Exporter.

Overseas Buyer is notified of this arrangement.

Exporter is then free to ship the goods to Buyers directly.

Exporter submits original documents, viz., invoice and shipping documentsduly assigned and receives advance there-against (upto 80%).


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THANK YOU

Factoring 1

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