Factoring & Forfaiting

By:-

Devabrat Gorain

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 Definition
 FACTORING is a “continuing arrangement”
between a financial institution (the factor) and a
business concern (the client) selling goods or
services to trade customers (the customer)
whereby the factor purchases the client’s accounts
receivables/book debts.

 Alternatively factoring is a collection and financial

service where by receivables are purchased by the
factor and credit sales are converted into cash
sales.
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 Factoring is a powerful financial instrument
specially designed to meet the post sales
working capital requirements of the Industrial,
Trade & Service sectors It is a portfolio of
complementary financial services.

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 Explanation
 It is the outright purchase of credit approved
accounts receivables with the factor assuming
bad debt losses.

 Factoring provides sales accounting service, use

of finance and protection against bad debts.

 Factoring is a process of invoice discounting by

which a capital market agency purchases all
trade debts and offers resources against them.

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Evolution of factoring
 The term factor has its origin from the Latin
word, ‘Facere’ meaning to get things done. The
dictionary defines a factor as an agent
particularly a mercantile agent. Factoring has a
long fascinating history which traces back
through several centuries.
 In the early stages factors were itinerant
merchants who were entrusted with
merchandise belonging to others.
 Factoring services started in US in early 1920s
and were introduced to other parts in 1960s.
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 Why we need Factoring?

 For Smooth cash flow

 For meeting working capital needs

 Overcome the situation from high cost

of capital and reduced profit

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Factoring Services
 Factoring Services Besides purchase of accounts
receivables, a factor may provide a wide range of
services such as:

a) Sales Ledger administration.

b) Debt Collection services.     

 c) Credit Information services.  

      d) Advisory services.
           
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 Factoring Services - Concept

Credit sale of goods

Client Customer
Invoice

Client submits invoice Customer pays

Payment up to
80% initially
Pays the
balance amount

Factor

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Funding Process

 Fax the copy of invoice to factor

 Factor processes the invoice
 Get up to 80% of the invoice in 24 hours
 20% kept in reserve account
 Factor receives the payment from customer
 Factor deducts fee from reserve account
 Factor forwards the balance from reserve

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Types/Forms of Factoring Services

1. Recourse & non-Recourse Factoring.

2. Advance & Maturity Factoring.
3. Full Factoring.
4. Disclosed & Undisclosed Factoring.
5. Domestic & Export/International
Factoring

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 Recourse Factoring: is the basis on which
receivables are sold to the factor with the
understanding that all credit risks would be
borne by the firm.
 In this type of factoring arrangement, the

factor provides all types of facilities except

debt protection.
 It is popular in developing countries.

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 Non-Recourse Factoring : is the basis
on which receivables are sold to a
factor with the understanding that all
credit risks are on the purchased
accounts(factor).
 It gives protection against bad debts to

the client In other words.

 It is popular in developed countries.

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 Advance factoring: In advance factoring, the
factor pays a pre-specified portion, ranging
between three-fourth to nine-tenths, of the
factored receivable in advance.

Maturity factoring: In maturity factoring, payment

is made only on the guaranteed payment date or
on the date of collection. In this arrangements
factor does not make a payment to thee client.

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 Full factoring: it provides an entire spectrum
of services such as: Collection Credit,
protection, Sales Ledger administration,
Short term finance. It includes all features of
non-recourse and advance factoring. It is also
known as Old Line Factoring.

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Disclosed Factoring: in this factoring, the
name of the factor disclosed in the invoice by
the supplier/manufacturer of the goods asking
the buyer to make payment to the factor.
Undisclosed factoring: the client’s customers
are not notified of the factoring arrangement
The client himself undertakes sales ledger
administration and collection of debts Client
has to pay the amount to the factor
irrespective of whether customer has paid or
not

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Domestic Factoring: In this factoring, the three
parties involved, namely, customer(buyer),
client(seller) and factor are domiciled in the
same country.

Export/ International Factoring: In the

international business transactions, factoring
services are provided by factors of both
countries This is known as Cross Border
Factoring / International Factoring

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Two-Factor System of Factoring
 There are usually four parties to a cross-
border factoring transactions
 Exporter (client)
 Importer (customer)
 Export Factor
 Import Factor
 Two factor system results in two separate but
inter-linked agreements
 Between exporter and export factor
 Between export factor import factor

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Two-Factor System of Factoring

 Functions of factors are divided between

export factor and import factor
 Import factor provides a link between export
factor and the importer and serves to solve
the international barriers like language
problem, legal formalities and so on. He also
underwrites customer trade credit risks,
collects receivables and transfers funds to
the export factor in the currency of the invoice

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 Country A Country B
Goods and invoices – Stage I
Exporter Importer

Copy Invoice Stage II Payments

Stage VI

Prepayments Stage III

Statements Stage V

Export Factor Copy Invoices Stage IV Import Factor

Payments Stage VII

Payment of Commission Stage VIII

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Benefits Of Factoring
 Financial Services
 Collection Service
 ‘Credit Risk’ Service
 Provision of expertise ‘sales ledger management’
service
 Consultancy service
 Economy in Servicing
 Off-balance sheet financing
 Trade Benefits
 Miscellaneous service

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 What is Forfaiting ?
 “Forfait” is derived from French word “a forfait”
which means forfeiting or surrender of rights
 It is a mechanism of financing exports
 by discounting export receivables
 evidenced by Bills of Exchange or Promissory Notes
 without recourse to the seller (viz exporter)
 carrying medium to long term maturities
 on a fixed rate basis (discount)
 upto 100 per cent of the contract value

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Forfaiting..
It is a highly flexible technique that allows an Exporter
to grant attractive credit terms to foreign Buyers,
without tying up cash flow or assuming the risks of
possible late payment or default. Simultaneously, the
Exporter is fully protected against interest and/or
currency rates moving unfavourably during the credit
period

Forfaiting is a highly effective sales tool, which

simultaneously improves cash-flow and eliminates
risk.

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DIFFERENCE BETWEEN
FACTORING AND FORFAITING
1. Factor discounts only-
75-80%
2. Usually provides financing
for short-term credit period
of up to 180 days.
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1. Forfaiter discounts the
entire value-100% finance.
2. Financing is usually for
medium to long-term credit
periods from 180 days upto
7 years though short term
credit of 30–180 days is
also available for large
transactions.
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DIFFERENCE BETWEEN
FACTORING AND FORFAITING
3.Requires a continuous 3. Seller need not route or
arrangements between commit other business to
factor and client, whereby the forfaiter. Deals are
all sales are routed through concluded transaction-wise.
the factor.
4. Factor assumes 4. Forfaiter’s responsibility
responsibility for collection, extends to collection of
helps client to reduce his forfeited debt only. Existing
own overheads. financing lines remains
unaffected.

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DIFFERENCE BETWEEN
FACTORING AND FORFAITING
5. Separate charges are
applied for
—  financing
—  collection
—  administration
—  credit protection and
—  provision of information.
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5. Single discount charges is
applied which depend on
—  guaranteeing bank and
country risk,
—  credit period involved
and
—  currency of debt.
Only additional charges is
commitment fee, if firm
commitment is required
prior to draw down during
delivery period.
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DIFFERENCE BETWEEN
FACTORING AND FORFAITING
6. Service is available for 6. Usually available for
domestic and export export receivables only
receivables. denominated in any
7. Financing can be with freely convertible
or without recourse; the currency.
credit protection 7. It is always ‘without
collection and recourse’ and
administration services essentially a financing
may also be provided product.
without financing.

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Bill Discounting
Bill discounting is a major activity with some of
the smaller Banks. Under this particular type of
lending, Bank takes the bill drawn by borrower
on his(borrower's) customer and pay him or her
immediately deducting some amount as
discount/commission. The Bank then presents
the Bill to the borrower's customer on the due
date of the Bill and collect the total amount. If the
bill is delayed, the borrower or his customer pay
the Bank a pre-determined interest depending
upon the terms of transaction.

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Difference Between Factoring And
Bill Discounting
1. Individual Transaction. 1. Whole turnover basis. This
also gives the client the
2. Each bill has to be
liberty to draw desired
individually accepted by finance only.
the drawee which takes
2. A one time notification is
time. taken from the customer at
3. Stamp duty is charged on the commencement of the
certain usance bills facility.
together with bank 3. No stamp duty is charged on
charges. It proves very the invoices. No charges
expensive. other than the usual finance
and service charge.
1.

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Cont….
4. More paperwork is 4. No such paperwork is
involved. involved.
5. Grace period for payment 5. Grace periods are far
is usually 3 days. more generous.
6. Original documents like 6. Only copies of such
MTR, RR, and Bill of documents are
Lading are to be necessary.
submitted.
7. No upfront charges.
7. Charges are normally up Finance charges are
front.     levied on only the amount
of money withdrawn. 

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Factoring In India
 Factoring service is of recent origin in India.
 It owes its genesis to the recommendations
of the Kalyansundaram Committee appointed
by RBI in 1989.
 The RBI issued guidelines for factoring
services in 1990.

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 No. of Factoring companies- 9

 Domestic Factoring Turnover - 4715

(in millions of EUR)
 International Factoring Turnover - 340
(in millions of EUR)
 Total Factoring Turnover - 5055
(in millions of EUR)

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Factors institutions in India
1. Canbank Factors Ltd. Banglore.
2. Export credit guarantee corp. of India Ltd, Factoring
division, Mumbai.
3. Foremost Factor Ltd, New Delhi.
4. Glo0bal trade finance Ltd, Mumbai.
5. SBI factors and Commercial Services Pvt Ltd, Mumbai.
6. The Hongkong & Shanghai Banking corp. Ltd,
Factoring & receivables finance, Mumbai.
7. Citibank NA, India.
8. Small industries Development Bank of India(SIDBI).
9. Standard Chartered Bank.

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 Thanks
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