Skip to main content

FACTORING

Image
By

Factoring means a financial transaction where an entity sells its receivables to a third party called a FACTOR at discounted prices. It is a method for the management of receivables. In this concept, the Banks/financial institutions sale their recoverable loans to third party (factor) at a discounted rate. 

The companies use this method for cleaning up their Balance Sheet. In factoring, a financial institution (factor) buys the accounts receivable of a company (Client) and pays up to 80% (rarely up to 90%) of the amount immediately on formation of agreement.  Factoring company pays the remaining amount (Balance 20% - finance cost – opening cost) to the client when the customer pays the debt. Collection of debt from the customer is done either by the factor or the client depending upon the type of factoring. The account receivable in factoring can either be for a product or service.

A factor provides the following services:

(a) Credit management and covering the credit risk involved.

(b) Provision of prepayment of funds against the debts it agreed to buy.

(c) Arrangement for collection of debts.

(d) Administration of sales outstanding. 

PARTIES IN FACTORING

(i) The Seller, who has produced/sold the goods/services and raised the invoice.

(ii) The Buyer, the consumer of goods/services and the party to pay.

(iii) The Factor, the financial institution that advances the portion of funds to the seller. 

FACTORING PROCESS

The seller interacts with the funding specialist/broker and explains the funding needs. The broker prepares a preliminary client profile form and submits to the appropriate funder for consideration.  Once both parties agree that factoring is possible, the broker puts the seller in direct contact with the funder to ask/answer any additional questions and to negotiate a customized factoring agreement, which will meet the needs of all concerned.

At this point, the seller may be asked to remit a fee with formal application to cover the legal research costs, which will be incurred during “due diligence”. This is the process by which the buyer‟s creditworthiness is evaluated through background checks, using national database services.

During the next several days, the funder completes the “due diligence” process on the seller, further verifies invoices and acknowledges any liens, UCC filings, judgments or other recorded encumbrances on the seller‟s accounts receivables.

The seller is advised of the facility and is asked to advise the buyers of the Factor by letter and submit an acknowledged copy of the same to the Factor for records. 

▪A detailed sanction letter is given to the seller and their acceptance on the same taken, with the required signatories. (Authorized signatories would be mentioned in the “Signing Authorities” section of the Proposal presented by seller). 

▪Sanction terms must contain the following: 

(a) The period for which the sanction is valid.

(b) When the facility comes into effect.

(c) Who the authorized signatories are for signing invoices for factoring. 

ADVANTAGES FOR THE SELLER

(a) Seller gets funds immediately after the sale is affected and on presentation of accepted sales invoices and Promissory notes.

(b) Major part of paper work and correspondence is taken care of by the factor.

(c) Follow – up, for recovery of funds, is done mainly by the factor.

(d) Interest rates are not as high as normal discounting.

(e) Increased cash flow to meet payroll.

(f) Immediate funding arrangements.

(g) No additional debt is incurred on balance sheet.

Comments

Post a Comment

Popular posts from this blog

BANKING BACKGROUND AND ITS GROWTH:

By
BANKING BACKGROUND AND ITS GROWTH For having a healthy economy there has to be a sound and effective banking system. The banking system of India should be able to meet new challenges posed by the technology and any other internal and external factors. For the past three decades several significant achievements have been observed in Indian banking system especially towards credit facilities. In fact, Indian banking system has reached gradually to remote places of the country also. The government’s regular policy for Indian bank since 1969 has paid rich dividends with the nationalization of 14 major private banks in India. The first bank in India (although conservative/rigid) was established in 1786. From 1786 till today, the journey of Indian Banking System can be segregated into three distinct stages. Stage-I:  Early phase from 1786 to 1969 of Indian Banks. Stage-II: Nationalization of Indian Banks and unto 1991 prior to Indian banking sector reforms. Stage-III:   New ...
3 comments
Read more

MORTGAGE BACKED SECURITIES

By
Mortgage – backed securities (MBS) are bonds secured by home and other real estate loans. They are created when a number of these loans, usually with similar characteristics, are pooled together. These securities assure a fixed return which is derived from the performance of the specific assets. They are issued with a maturity period of 3 to 10 years and backed by pooled assets like mortgages, credit card receivables, etc.  Example: A bank offering home loan might round up Rs.20 crore worth of such loans. That pool is then sold to a Government Agency or a government sponsored – enterprise (GSE), or to others to be used as the collateral for the new MBS.  Features of assets to be securitized: The assets to be securitized shall have the following features:- (a) The cash flows generated from the assets should be received periodically in accordance with a Pre – determined schedule. (b) The actual cash flows generated from the assets should be predictable. (...
Post a Comment
Read more

HEDGE FUNDS

By
Hedge means Fence, Barrier & Hurdle (other meaning – Protection & Security). In other words, it is a process of reducing and controlling future risk by taking some steps in advance.  Hedge fund refers to an alternative investment vehicle that is designed to protect investment portfolios from market uncertainty, while generating positive returns in both up and down markets. Hedge funds are unregistered private investment partnerships, funds or pools that may invest and trade in many different markets, strategies and instruments (including securities, non – securities and derivatives) to provide certain periodic and standardized pricing and valuation information to investors.  In short, it is an alternative investment that is designed to protect the Capital (investment amount) of an investor from market uncertainty and generate positive returns from the market fluctuations.  What is Hedging Concept?  Case Study: STEEL INDUSTRY  Facts: An...
Post a Comment
Read more