Factoring And Forfaiting

Presented By: Richa

What is Factoring?
• Factoring is a financial service in which
the business entity sells its bill receivables
to a third party at a discount in order to
raise funds.
• Factoringinvolves the selling of accounts
receivable to an outside agency. Such an
agency is called a factor.
Definition
• Factoring is essentially a financial tool that
allows you to finance your slow-paying invoices
from creditworthy customers. Using your invoices
as collateral, the finance company advances
funds to your company – providing you the
resources to pay important expenses.
Parties in Factoring
• Factor :- A person, an agent or a firm which
renders the services of factoring.
• Client :- The company or the firm to whom the
factor renders his services of factoring.
• Debtor/Customer :- A person or a firm who is in
debt to the client.
Concept of Factoring
• The seller makes the sale of goods or services and generates
invoices for the same.
• The business then sells all its invoices to a third party called
the factor.
• The factor pays the seller, after deducting some discount on
the invoice value.
• The rate of discount in factoring ranges from 2 to 6 percent.
• However, the factor does not make the payment of all invoices
immediately to the seller. Rather it pays only up to 75 to 80
percent of the invoice value after deducting the discount.
• The remaining 20 to 25 percent of the invoice value is paid
after the factor receives the payments from the seller’s
customers. It is called factor reserve.
Factoring Process
2
Seller Sends the invoice for funding Factor
3
Pays 75 to 80% of invoice value

5
Makes remaining payment

6
Makes payment of factoring commission/ fees depending
upon the type of factoring service

1 Sells the goods and 4

Makes invoice
raises the invoice payment
Buyer
Types
Recourse and non-recourse

Advance and maturity

Full factoring

Invoice factoring

Domestic And Cross border

Recourse And Non-Recourse
• Recourse Factoring :- The factor has recourse to the
client (seller of goods) if importer(buyer of goods) become
insolvent. Risk of account receivables purchased from
client becoming bad is borne by client himself.
• Non-Recourse Factoring :- Factor has no recourse to
the client if the debt / account receivables purchased
turns out be bad or irrecoverable. Factor can not claim
the amount from the client. As factor bear the risk of non-
payment, commission charged for the services is higher
than recourse type of factoring.
Advance & Maturity
• Advance Factoring :- Factor pay the advance varying
between 75-85 percent of the value of receivables or
invoice factored. The balance is paid upon collection or on
the guaranteed payment date.
• Maturity Factoring :- No advance payment is made by
the factor to client. Factor pay the client only after
collection of account receivables/ debt or on a guaranteed
payment date. The guaranteed payment date is usually
fixed taking into account the previous ledger experience
of the client and a period for slow collection after the due
date of the invoice.
Full Factoring
• Also known as Conventional Factoring, it combines the
features of both non-recourse and advance factoring
arrangement. Full factoring provides the entire spectrum
of services
• collection,
• credit protection,
• sales-ledger administration ;and
• short-term finance.
Invoice Factoring
• Under Invoice Factoring arrangement, factor makes
prepayment to the client against the purchase of book debts
and charges interest for the period spanning the date of
prepayment to the date of collection.
• The sales ledger administration and collection are carried out
by the client.
• The client provides the factor with periodical reports on the
value of unpaid invoices and the ageing schedule of debts.
• This facility is usually kept confidential i.e., the customers
(whose debts have been purchased by the factor) are not
informed of the arrangement. Therefore, this arrangement is
also referred as ‘Confidential Factoring’ or undisclosed
factoring.
Domestic & Cross Border
• The basic difference in domestic and cross border factoring is on
account of number of parties involved in factoring process.
• In domestic factoring, three parties are involved – seller (client),
Factor, Buyer
• While in cross border or export factoring, four parties are
involved in transaction –
Exporter (Seller/client), Importer (buyer), Export Factor, Import
Factor. It is also known as Two Factor system of Factoring as there
are two factors involved in the transaction.
Advantages
To the client To the buyer
• Competitive Credit terms • Adequate credit facilities
• Accelerate the production • Getting periodical statement
cycle from the factor.
• Free from tensions • No effect on quality of goods,
contractual obligations etc.
• Efficient Working Capital
Management
• Assessing quality of debtors
• Expansion of business
Advantages
• To the Factor
• Improves the quality of the advances of the bank
• It is not at all a threat
• It is a complementary to the banks
Disadvantages
• Cost is much Higher than cost of any other funding
• Solves a very specific problem of cash flow
• The invoices of the client will be verified
• Exhausting of collateral security
• Loss of personal touch with the buyer
• Reduction of Profit
Origin
• Came into Existence in the year 1920
• It was not an organised sector at that time
• Association of British Factors (ABF) came
in 1976
• Nearly90% of global factoring turnover
comes from USA and European countries.
Factoring in India
• Factoring in India was introduced after the
recommendation of the study group
(Kalyanasundaram Committee) which was set up
by RBI in 1988 , in order to explore the
possibilities of launching factoring services in
India.
• The First factoring institution to come into
existence was SBI Factors and Commercial
Services Pvt. Ltd promoted by State Bank Of
India, SIDBI, Union Bank of India, State Bank of
Saurashtra And State Bank of Indore.
• So SBI Factors and Commercial Limited became the first
factoring company to start its operations in India on April
18, 1991.(Paid up Capital of 25 crores)
• The other Factoring company is Canbank Factors Ltd.
Promoted jointly by Canara Bank, Andhra Bank and
SIDBI, which started its operation on September 2,
1991.(Paid up Capital 10 crores)
• At present , there are only 7 NBFC factors registered
with RBI.
Bill Discounting
• While discounting a bill, the bank buys the
bill(i.e. Bills of Exchange or Promissory Note)
before it is due and credits the value of the bill
after a discount charge to the customer’s account.
The transaction is practically an advance against
the security of the bill and the discount
represents the interest on the advance from the
date of purchase of the bill until it is due for
payment.
Factoring Vs Bill Discounting
Bill Discounting Factoring
• Individual Acceptance • One time acceptance
• Short term duration • Long term
• High cost • Low Cost
• More paperwork
• Less paperwork
• 3 days grace period
• Higher grace period
• Requirement of original document
• Copies OK
• No assignment of debt
• Both domestic and
international
• Assignment of debt
Forfaiting
• Forfaitingis a means of financing that enables
exporters to receive immediate cash by selling
their medium and long-term receivables—the
amount an importer owes the exporter—at a
discount through an intermediary.
• Theexporter eliminates risk by making the sale
without recourse. It has no liability regarding the
importer's possible default on the receivables.
 Parties

Importer Exporter Forfaiter

 Process
• The exporter approaches the forfaiting company
• On approval by the forfaiter, a sale contract is entered into
between the exporter and importer.
• On execution of the export, the exporter submits the bill to the
forfaiter and obtains payment.
• All the trade documents, connected with exports, are handed
over by the exporter to his bank which in turn hands over the
documents to the importer’s bank.
• The proof of all these documents will be submitted by the
exporter to the forfaiter who will make payment for the export.
• The cost of forfaiting is included in the bill. The interest will
be included in the invoice and recovered from the importer.
Mechanism
Factoring vs Forfaiting
Factoring
• Factoring is an arrangement that
converts your receivables into
ready cash, and you don't need to
wait for the payment of
receivables at a future date.
• Involves account receivables of
short maturities.
• Trade receivables on ordinary
goods.
• Finance upto 80% to 90%.
Forfaiting
• Forfaiting implies a transaction in
which the forfaiter purchases
claims from the exporter in return
for cash payment.
• Involves account receivables of
medium to long term maturities.
• Trade receivables on capital
goods.
• Finance upto 100%
Continued…

• Recourse or non • Non recourse

recourse
• Costof forfaiting borne
• Costof factoring borne by the overseas buyer.
by the seller (client).
• Involvesdealing in
• Doesnot deals in negotiable instrument.
negotiable instrument.
• Secondary Market
• No secondary market . exists.
Conclusion
• As we have discussed that factoring and
forfaiting are two methods of financing
international trade. These are mainly used
to secure outstanding invoices and account
receivables. Factoring involves the
purchase of all receivables or all kinds of
receivables. Unlike Forfaiting, which is
based on transaction or project.