The Results of Factoring in Finance Management

This involves the sale at a discount of accounts receivable or other debt assets on a daily, weekly or monthly basis in exchange for immediate cash. The debt assets are sold by the exporter at a discount to a factoring house, which will assume all commercial and political risks of the account receivable. In the absence of private sector players, governments can facilitate the establishment of a state-owned factor; or a joint venture set-up with several banks and trading enterprises. Factoring is a financial option for the management of receivables. In simple definition it is the conversion of credit sales into cash. 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 agreement. Factoring company pays the remaining amount (Balance 20%-finance cost-operating 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. We will see different types of factoring in this article. The account receivable in factoring can either be for a product or service. Examples are factoring against goods purchased, factoring for construction services (usually for government contracts where the government body is capable of paying back the debt in the stipulated period of factoring. Contractors submitA  invoices to get cash instantly).

HOW FACTORING IS DONE?

Client deliver goods / services to the customers and issue an invoice Client sell invoice to a financial institution (factoring company), who immediately advances the 1st installment. This will be between 70% and 90% of the gross value of the invoice. Client usually receives the advance in as little as 24 hours. The sale of the receivables essentially transfers ownership of the receivables to the factor, indicating the factor obtains all of the rights and risks associated with the receivables. Accordingly, the factor obtains the right to receive the payments made by the debtor for the invoice amount and must bear the loss if the debtor does not pay the invoice amount After 30 to 60 days, the invoice is paid by the customer and the factoring company advances you the remaining funds as a 2nd installment, less a small financing fee. Let us see how factoring is done against an invoice of goods purchased:-

FACTORING IN HSBC

Factoring combines sales-linked finance, bad debt protection, payment collection and transmission services that helps business to compete with the 'local supplier' on equal trading terms. Simply, if a business is trading with another business on open account credit terms, HSBC Factoring Services has the potential to help grow business sales, speed up cash flow, collect payment on invoices and, in selected cases, even protect business from the risk of bad debt. Factoring is a financial transaction whereby a business sells its accounts receivable (i.e., invoices) to a third party (called a factor) at a discount in exchange for immediate money with which to finance continued business. The receivable is essentially a financial asset associated with the debtor's Liability to pay money owed to the seller (usually for work performed or goods sold).Factoring's rationale includes the financial task of advancing funds to smaller rapidly growing firms who sell to larger more creditworthy organizations. CHARACTERISTICS OF FACTORING

Other features:-

Factoring is a method of off balance sheet financing. Cost of factoring=finance cost + operating cost. Factoring cost vary according to the transaction size, financial strength of the customer etc. The cost of factoring varies from 1.5% to 3% per month depending upon the financial strength of the client's customer. Indian firms offer factoring for invoices as low as 1000Rs For delayed payments beyond the approved credit period, penal charge of around 1-2% per month over and above the normal cost is charged (it varies like 1% for the first month and 2% afterwards). Bad debts will not be considered for factoring. Factoring receivables is an ideal financial solution for new and emerging firms without strong financials. This is because credit worthiness is evaluated based on the financial strength of the customer (debtor). Hence these companies can leverage on the financial strength of their customers.

Eligibility Criteria

Reserve Bank of India in its notification dated 12th February 2008, has permitted banks to extend financial assistance to support the factoring business of Factoring Companies which comply with the following criteria: a) The companies carry out all the components of a standard factoring activity, viz., financing of receivables, sale-ledger management and collection of receivables. b) They derive at least 80 per cent of their income from factoring activity. c) The receivables purchased/financed, irrespective of whether on 'with recourse' or 'without recourse' basis, form at least 80 per cent of the assets of the Factoring Company. d) The assets/income referred to above would not include the assets/income relating to any bill discounting facility extended by the Factoring Company. e) The financial assistance extended by the Factoring Companies is secured by hypothecation or assignment of receivables in their favour. As per the existing guidelines, bills discounted / rediscounted by NBFCs (which is deemed to include any other mode of financing of receivables of the borrowers), except those arising from sale of certain types of vehicles, are not eligible for bank finance. Further, the unsecured loans extended by the NBFCs to other companies are also ineligible for bank finance.

 

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