factoring

MFM: 2013-15/ROLLNO.: 18 Page 1

ACCOMPLISHED UNDER

THE

GUIDANCE OF

Dr. FATEH BAHADUR SINGH SIR

Dr. F. B. SINGH DIPANVITA YADAV

PROFESSOR ROLL NO. 18

COMMERCE FACULTY MFM- 4th SEMESTER

BANARAS HINDU UNIVERSITY COMMERCE FACULTY


CERTIFICATE

This is to certify that Ms. DipanvitaYadav, the student of Master of

Financial Management- 4th

Semester; Roll No. 18,has successfully

completed her dissertation report on the topic Factoringunder my

supervision and guidance for the session 2013-2015.

During this period, she has been found sincere and dedicated

towards her work. I wish her for prosperous success and bright future.

Dr.F.B.Singh

Professor

Faculty of Commerce

Banaras Hindu University


ACKNOWLEDGEMENT

In the preparation of this dissertation report, I have received encouragement and support from

my mentor Dr.F.B.Singh, Professor, Faculty of Commerce, Banaras Hindu University,

Varanasi. I would like to express my gratitude towards him for providing his valuable support

and guidance.

Secondly, I would like to give thanks to those honourable personalities who have included

this dissertation work as a part of our course so that we can able to find out some new area to

enhance our knowledge. While working on this report, I am very much appraised by my

mentor to research on my topic Factoring. Due to him, I found the worth of my topic that

its a very new and different topic of research.

Thirdly, I would like to thank my facultys Dean Dr.A.R.Tripathi for providing us this

wonderful course and due tothe support of him and the support of Faculty of Commerce, I

am able to present my views and experience in the form of dissertation.

Fourthly, I would like to thank the authors of some books which have helped me in the

completion of my project report.

Last but not the least, I would like to thank my parents for praising and supporting me at

every stage of my life to do something better and different.

I would like to thank again the mentor by saying,Thank you sir for being the mentor of

my dissertation.....

DipanvitaYadav


CONTENTS

1. INTRODUCTION........................................................................................... 05

2. HISTORY OF FACTORING........................................................................... 06

3. CONCEPT AND MEANING OF FACTORING................................................. 07

4. PROCESS OF FACTORING........................................................................... 08

5. PARTICIPANTS OF FACTORING................................................................. 10

6. FUNCTIONS OF FACTORING........................................................................ 12

7. TYPES OF FACTORING............................................................................... 14

8. COST AND BENEFITS OF FACTORING........................................................ 16

9. ADVANTAGES AND DISADVANTAGES OF FACTORING........................... 18

10. SBI GLOBAL FACTORS LTD........................................................................ 19

11. Factoring in india and role of reserve bank............................... 21

12. Growth of factoring industry in India............................................ 27

13. Conclusion................................................................................................. 29


INTRODUCTION

Many financial institutions which are providing factoring services to large corporate entities,

decided to focus on small and medium enterprises due to their large contribution to the

economy as factoring help small businesses to achieve faster growth by efficient management

of their working capital.

Financing receivables with the help of factoring can help a company having liquidity without

creating a net liability on its financial condition. Although in the western countries, factoring

industry handles billions of dollars business every year, but business houses in India are still

unsure about using it as a financial tool. At the instance of RBI, a committee headed by

ShriC.S.Kalyanasundaram went into the aspects of factoring services in India. In 1991, SBI

established its subsidiary- SBI Factors Ltd.with an authorised capital of Rs. 25 Crores to

undertake factoring services.

Regular flow of working capital is needed for the smooth functioning of any enterprises.

Purchases of goods and services often delay their payments, resulting in working capital.

However, expediting the collection of accounts receivables could alleviate the difficulties of

the suppliers of goods and services. Therefore, factoring is a financial service designed to

help the companies to arrange the payment of their receivables in a better manner. Factoring

is extensively used in developed countries.

Factoring grew specifically out of the need for working capital in some industries. Most of

the new firms fail due to poor cash flow management. Cash flow needs are not restricted to

start up operations only. Many established and even prosperous businesses occasionally face

a cash crunch. One solution that is rapidly growing in popularity is Factoring. Factoring

provides the means for businesses to convert receivables to cash before they are due without

retaining liability for their payment. In its inception, factors acted as commission merchants

handling goods on consignment. During the latter years of 19th

century and the early years of

the present century, factors began to stop acting as sales agent for their clients. The general

factors thus gradually evolved into modern factor. The growth of factoring, the entry of

variety of financial institutions into this field, and the widespread uses of such financing in

many different lines of business are all recent phenomena, developing since the beginning of

the present century.


HISTORY OF FACTORING

Factoring the purchase of organisations book debts by third party has its root in ancient

history.

THE ANCIENT HISTORY OF FACTORING

Prior to the 20th

century a factor was a business agent included warehousing and selling of the

commodities consigned to the agent, accounting to the principals for the proceeds and

guaranteeing the credit of purchasers. Sometimes cash advances were also made to the

principals before the actual sale of goods.

According to Wood the first record of such middleman functions was about 5000 years in

ancient Iran where guarantees were issued to sellers of goods as security to assure the

fulfilment of buyers obligations. These agents sold goods in their own name on the behalf of

a principal, issued invoices, extended credit, with and without recourse to the principal and

provided other trade services.

The ancient Sumarians also provided such middleman functions as did the Assyrians who

extended the service to act as commission merchants and finance for trade caravans. The

Babylonians later introduced the concept of notification to pay specific third parties.

Whereas previously merchants borrowed cash and paid promptly for the goods, in ancient

Greece Protagoras promoted the true credit purchase pay by sundown.

During the 16th

century factoring became an important means of stimulating international

trade between newly settled colonies and the respective mother countries.

HISTORY OF MODERN FACTORING

Modern factoring took hold in United States of America about 150 years ago flourishing

with the growth in the U.S. economy. The development of the American textile mills lead to

the development of factors for those mills and the growth in the factoring had been largely

tied to the growth in the textiles and apparel industry.

Pure factoring was seen as an appropriate means of servicing the needs of textiles and apparel

industry. This meant that the factor purchased outright the clients accounts receivables

without recourse to the client. In such an agreement the clients customers were notified of

the factoring arrangement, the factor managed account receivable ledger, performed credit

investigation and approval, assumed credit risks, made advances against receivables

purchased and provided advisory services.


CONCEPT AND MEANING OF FACTORING

CONCEPT OF FACTORING

Factoring is a financial service whereby receivables are purchased by the factor and a

financial option for credit sales is effected on open account terms. Factoring is a package of

services providing integrated receivables management. Factoring is often used synonymously

with accounts receivable financing.

A lot of working capital is tied up in the form of trade debts. Collection of debts, especially

for the small scale and medium scale companies is the biggest problem. The average

collection period has been on increase. Delays in the collection process in turn lead to

liquidity problems and consequently to delay in production and supplies. The peculiar

situation in India is that a number of small units are catering to the requirements of a single

large buyer. This large buyer is always known for his procrastination in paying his small

suppliers. The crux of the problem is not so much the failure to pay altogether as the failure

to pay on time. As a result, the interest cost of financing book debts is quite heavy. The

increase in cost of capital reduces profit and competitiveness of a company particularly the

small ones in the market. Ultimately, the small unit may become even sick. To overcome this

situation, the factoring service has been conceived.

MEANING OF FACTORING

The word Factor has been derived from the Latin word Facere which means to to make or to

do. In other words, it means to get the things done. According to the Webster dictionary Factor

is an agent, as a banking or insurance company, engaged in financing the operations of certain

companies or in financing wholesale or retail trade sales, through the purchase of accounts

receivables. As the dictionary rightly points out, factoring is nothing but financing through purchase

of account receivables.

Thus, factoring is a method of financing whereby a company sells its trade debts at a discount to a

financial institution. In other words, factoring is a continuous arrangement between afinancial

institution (the factor) and a company (the client) which sells goods and services to trade

customers on credit. As per this arrangement, the factor purchases the clients trade debts including

accounts receivables either with or without recourse to the client, and thus exercises, control over the

credit extended to the customers and administers the sales ledger of his client. The client is

immediately paid 80 per cent of the trade debts taken over and when the trade customers repay their

dues, the factor will make the remaining 20 per cent payment. To put it in a laymans language, a

factor is an agent who collects the dues of his client for a certain fee.

Robert W. Johnson states, Factoring is a service involving the purchase by a financial

institution/organisation, called a factor, of receivables owned to manufacturers and distributors by

their customers, with the factor assuming full credit and collection responsibilities.

For every service that is provided by the factor to its client, it charges fees or commission (can ask for

some percentage of their sales turnover as a commission).


PROCESS OF FACTORING

The main function of the factoring is the realization of credit sales. Once the sales transaction

completed between the firm and the buyer, the factor starts realizing the sale proceeds. The

seller enters into an agreement with a factor whereby the factor provides the facility of debt

collection. Sometimes the sellers bank is also involved in the factoring business. The seller

hands over the duly signed copy of invoice to the factor. Generally 80 per cent of the invoice

value is paid against the realization. The factor collects the service charges and discount

charge (comparable to bank interest rate) from the seller/client. The factor furnishes

periodical statement to both, the seller and the customer. The maximum debt period permitted

under factoring is 150 days inclusive of a maximum grace period of 60 days.

MODUS OPERANDI OF THE FACTORING


A factor provides finance to his client up to a certain percentage of the unpaid invoices which

represent the sale of goods or services to approved customers. The modus operandi of the

factoring scheme is as follows:

i. There should be a factoring arrangement (invoice purchasing arrangement) between

the client (which sells goods and services to trade customers on credit) and the factor,

which is the financing organization.

ii. Whenever the client sells goods to trade customers on credit, he prepares invoices in

the usual way.

iii. The goods are sent to the buyers without raising a bill of exchange but accompanied

by an invoice.

iv. The debt due by the purchaser to the client is assigned to the factor by advising the

trade customers, to pay the amount due to the client, to the factor.

v. The client hands over the invoices to the factor under cover of a schedule of offer

along with the copy of invoices and receipted delivery challans or copies of R/R or

L/R.

vi. The factor makes an immediate payment up to 80% of the assigned invoices and the

balance 20% will be paid on realisation of the debt.

TERMS AND CONDITIONS OF FACTORING

The existence of an agreement the factor and the client are central to the function of

factoring. The main terms and conditions generally included in a factoring agreement are the

following:

i. Assignment of debt in the favour of factor,

ii. Selling limit for the client,

iii. Conditions within which the factor will have recourse to the client in case of non-

payment by the trade customer,

iv. Circumstances under which the factor will have recourse in case of non-payment,

v. Details regarding the payment to the factor for his services, say for instance, as a

certain percentage on turnover,

vi. Interest to be allowed to the factor on the account where credit has been sanctioned to

the supplier, and

vii. Limit of any overdraft facility and the rate of interest to be charged by the factor.


PARTICIPANTS OF FACTORING

THE BUYER/THE CUSTOMER

A buyer buys the material in accordance with the negotiated terms from the business entity.

He receives the delivery of goods with the invoice and an instruction to settle the amount to

the factor. If he is not able to settle the amount, he has to get an extension of time from the

factor. However, in the case of default, legal action is taken by the factor.

THE COMPANY/THE SELLER

The seller enters into MoU with the buyer. He chooses the customer invoices he wants to

factor. He sells the goods to the buyer as per the MoU. After the delivery of goods, he sends

copies of invoice, delivery challan, MoU and the instruction to make payment to the factor.

The seller receives advance payment from the factor for selling the receivables from the

buyer. Normally, this ranges from 80 per cent to 90 per cent of the invoice amount. The

remaining amount is settled as per the agreement.


THE FACTOR/THE PURCHASER OF INVOICES OF THE SELLER

A client sends the business name, address and amount he wants to factor for a particular

business client. Credit is verified and limits are established for the business client. There is no

charge for credit validation. The seller and the factor enter into an agreement of availing the

factoring service. The factor after reviewing the invoice and other documents makes payment

to the seller. The factor receives payment from the buyer on the due dates and gives the

remaining amount due to the seller after deducting his service charges.

THE ESSENTIAL DOCUMENTS

Certain documents are essential for availing the factoring service. These are:

The invoice, bills or other documents by the seller with a mention of factoring service.

A written statement by the seller to ensure that the bills are free from any

encumbrances, charges, lien, pledge, hypothecation, etc.

Deed of assignment to enable the factor to recover the money from the seller, if there

is any default.

A letter of confirmation stating that all the conditions of the sell-buy contract between

the buyer and the seller have been complied with and the transaction is complete,

should be issued by the seller.

A letter of waiver in favour of the factor is needed, if the banks have any charge over

the assets sold. The seller should arrange for the letter of waiver.


FUNCTIONS OF FACTORING

As stated earlier the term factoring simply refers to the process of selling the trade debts of

a company to a financial institution working as a factor. But, in practice, it is more than that.

Factoring involves following functions:

1. PURCHASE AND COLLECTION OF DEBTS

Factoring envisages the sale of trade debts to the factor by the company, i.e. the client. It is

where factoring differs from discounting. Under discounting, the financier simply discounts

the debts backed by the account receivables of the client. He does so as an agent of the client.

But, under factoring, the factor purchases entire trade debts and thus, he becomes the holder

for value and not an agent; once the debts are purchased by the factor, collection of debts

becomes his duty automatically.

2. SALES LEDGER MANAGEMENT

Sales ledger management is a very important function of the factoring. Once the factoring

relationship is established, it becomes the factors responsibility to take care of all the

functions relating to the maintenance of sales ledger. The factor has to credit the customers

account whenever payment is received, send monthly statements to the customers and to

maintain the liaison with the client and the customer to resolve all the disputes. He has to

inform the client about the balances in the account, the overdue period, the financial standing

of the customers, etc. Thus, the factor takes up the work of monthly sales analysis, overdue

invoice analysis and credit analysis.

3. CREDIT INVESTIGATION AND UNDERTAKING OF CREDIT RISK

The factor has to monitor the financial position of the customer carefully, since he assumes

the risk of default in payment by customers due to their financial inability to pay. This

assumption of credit risk is one of the most important functions which the factor accepts.

Hence, before accepting the risk, he must be fully aware of the financial viability of the

customer, his past financial performance record, his future ability, his honesty, and integrity

in the business world, etc. For this purpose, the factor also undertakes the credit investigation

work.


4. PROVISION OF FINANCE

After the finalization of an agreement and sale of goods by the client, the factor provides 80

per cent of the credit sales as prepayment to the client. Hence, the client can go ahead with

his business plans or production schedule without any interruption. This payment is generally

made without any recourse to the client. That is, in the event of non- payment, the factor has

to bear the loss of payment.

5. RENDERING CONSULTANCY SERVICES

Apart from the above, the factor also provides the management services to the client. He

informs the client about:

Additional business opportunities available,

The changing business and financial profiles of the customers of the client,

Customers view about the products of the client,

The likelihood of coming recession,

Makes systematic analysis to monitor and manage the credit recovery,

Provides information about business trends of the clients products, marketing

strategies, and competition and helps the client to assess the credit worthiness of the

customer,

Provides the facility for opening letters of credit by the client,

Audits the procedures for invoicing, delivery and dealings with sales return.


TYPES OF FACTORING

The factoring services differ from each other depending on the agreement entered into and

the services provided. The basic service of the factor, i.e. collection of receivables and sales

ledger administration is common in all factoring services. The types of factoring are

discussed as below:

1) NON- RECOURSE FACTORING

The factor purchases accounts receivable without recourse to the client, and bears the entire

burden of collection and risk of bad debts losses. This feature is especially attractive to a

company which cannot afford extraordinary bad- debt losses.

Along with buying clients accounts receivable without recourse, factors offer a number of

other services. Primarily, among these is the lending of money against inventory. This

method of secured borrowing is often used by customers to finance temporary needs for

working funds. When the client sells inventory, it turns over the resultant receivables to the

factor and liquidates the loan.

2) RECOURSE FACTORING

The factor purchases the account receivables with recourse to the client. A client may have

made an independent decision to supply merchandise in excess of the limit the factor is

responsible for. The factor will work the receivable until a specific date (usually a set of

number of days) then turn the receivable, which could not be collected, back to the client for

resolution. There can be many creative arrangements that can be made on the basic rules for

selling with recourse.

3) NOTIFICATION FACTORING

This means that the factoring arrangement is disclosed to customers. They are advised of the

sale of the receivables and are asked to pay the factor direct. While it is a normal practice that

notification is provided in non- recourse factoring it may also occur when the factoring is

with recourse. Notification is usually required when the factors consider the client to be of

higher risk, or when for one reason or another, the probability of non- collection is greater if

the arrangement is hidden.

4) NON- NOTIFICATION FACTORING

The customer is unaware of the factoring arrangement. Payment is usually either forwarded

to the seller, as would normally be the case, or addressed to the seller but sent to the postal

address the control of the factor. Clients acceptable under this arrangement must be of lower

risk class and the accounts receivable would be of a better quality than under notification

factoring. Also, under this arrangement, the client usually remains responsible of the

collection of debts.


5) MATURITY FACTORING

The factor pays the client on the date the invoices, or the batch of invoices, becomes due for

payment (matures). This form of factoring is suitable without a liquidity improvement need

but one that desires the non- financial services of the factor. These non- financial services

may include:

Credit risk assessment,

The establishment of credit amount and terms in respect to the risk class of the

customer,

Collection of the receivable, and

The bearing of the default risk.

6) INTERNATIONAL FACTORING

All of the services associated with the factoring, that is, credit assessment, credit

management, and collections, risk guarantees, and financing are also available to exporters

through an export factoring facility. The basic difference between it and domestic factoring is

that international factoring requires both an Export Factor and Import Factor. The Export

factor is located in the home country of the exporter, is responsible for all contacts with the

exporter, providing credit approval information, advancing funds, managing exporters

international sales ledger, remitting any funds to the exporter etc. In fact, the Export factor is

almost in a similar position to the factor in a domestic factoring situation.

Import factors, on the other hand, are responsible for credit checking, collecting funds from

the importers, and remitting funds to the Export factors, and through them their clients,

information about the market conditions in their home markets.

7) AGENCY FACTORING

The word agency has no meaning as far as factoring is considered. Under this type, the factor

and the client share the work between themselves as follows:

The client has to look after the sales ledger administration and collection work, and

The factor has to provide finance and assume the credit risk.

8) SUPPLIES GUARANTEEING FACTORING

This type of factoring is suitable for business establishments which sells goods through

middlemen. Generally, goods are sold through wholesalers, retailers or through middleman.

In such cases, the factor guarantees the supplier of goods against invoices raised by supplier

upon another supplier. The bills are assigned in favour of factor who guarantees payment of

those bills. This enables the seller to earn profits without much financial involvement.


COST AND BENEFITS OF FACTORING

ABOUT COST

The cost structures of factoring companies vary across geographies. However, the usual

heads of costs include an interest charge for the funded amount and service fees on

transactions. Additional add-on services availed of like credit protection and collection etc.

could be charged separately depending on the package structured with the client company.

While factoring arrangements may end up being priced slightly higher for the incremental

risks involved, it would be fair to assume that the variation (compared to traditional sources)

would be fairly small.

Factor usually charge for their services in two ways:

Administration fees and finance charges. Service fee typically range from 1% to 3%

of annual turnover.

For the finance made available, factors levy a separate charge, similar to that of a

bank overdraft.

A number of conditions determine the costs of factoring service such as:

I. The nature of the business, including considerations such as seasonal aspects, stability

of the products, whether the customer is a manufacturer or wholesaler.

II. Annual sales volume of clients firm. As volume increases, the percentage charged

usually decline.

III. Average size of order processed. Large orders are no more time consuming to process

than small orders and produce more revenue for the factor. Therefore, the factors

commission rate declines as the size of the individual order rises.

IV. Creditworthiness of the clients customers. If the risk is relatively small, the factors

commission may be lower.

V. Clients selling terms. If credit period is very lengthy, the factor must wait to collect

its receivables, this requires a higher fee.


BENEFITS OF FACTORING

Factoring offers a number of benefits to the clients. Some of the important benefits are:

1. Elimination of bad debt a non-recourse factor will assume the risk of bad debt, thus

eliminating this expense from your income statement.

2. Professional collections - Not only will a good factor collect receivables in a professional

manner, but he will eliminate overhead associated with the collection process.

3. Unlimited capital Factoring is the only source of financing that grows with your sales. As

sales increase, more cash becomes available for you to use, which allows you to constantly

meet demand.

4. Take advantage of volume and early payment discounts With improved cash flow, you

will be in a position to take advantage of these discounts which directly affect the bottom

line.

5. No debt incurred Factoring is NOT a loan and therefore, you are not incurring any debt.

This keeps your balance sheet looking good, thereby making it easier to obtain other types

of financing or to sell the company.

6. Factoring is easy and fast The application required to establish a factoring relationship is

much simpler than other types of financing. No tax returns, financial statements, business

plans, or projections are needed.

7. No personal guarantees The company principals do not have to personally guarantee the

repayment of the funding. They usually have to guarantee against fraud or disputes, but not

against customers inability to pay.

8. Invoices are paid faster Factors generally report payment experiences to Dun & Bradstreet

or other credit agencies. A debtor who is aware of this will not want his credit impaired.

9. Credit screening A factor will provide you with credit information on new customers, thus

allowing you to make better credit decisions. Factoring may not be for everyone, but those

who are in the role of banker for their customers should at least take the time to weigh the

benefits of factoring to provide continued growth and stability.


ADVANTAGES AND DISADVANTAGES OF

FACTORING

There are numerous advantages to factoring, but also some potential drawbacks, as with any

type of funding.

ADVANTAGES

Factoring provides a large and quick boost to cash flow. This may be very valuable for

businesses that are short of working capital.

there are many factoring companies, so prices are usually competitive

it can be a cost-effective way of outsourcing your sales ledger while freeing up your

time to manage the business

it assists smoother cash flow and financial planning

some customers may respect factors and pay more quickly

factors may give you useful information about the credit standing of your customers

and they can help you to negotiate better terms with your suppliers

factors can prove an excellent strategic - as well as financial - resource when planning

business growth

you will be protected from bad debts if you choose non-recourse factoring

cash is released as soon as orders are invoiced and is available for capital investment

and funding of your next orders

factors will credit check your customers and can help your business trade with better

quality customers and improved debtor spread

DISADVANTAGES

Queries and disputes may have to be referred on and may have a negative impact on your

available funding. For this reason, factoring works best when a business is efficient and there

are few disputes and queries.

The cost will mean a reduction in your profit margin on each order or service

fulfillment.

It may reduce the scope for other borrowing - book debts will not be available as

security.

Factors will restrict funding against poor quality debtors or poor debtor spread, so you

will need to manage these funding fluctuations.

To end an arrangement with a factor you will have to pay off any money they have

advanced you on invoices if the customer has not paid them yet. This may require

some business planning.

Some customers may prefer to deal directly with you.

How the factor deals with your customers will affect what your customers think of

you. Make sure you use a reputable company that will not damage your reputation.


SBI GLOBAL FACTORS LTD. IN INDIA

ABOUT SBI GLOBAL FACTORS LTD.:

SBI Global Factors Ltd (SBIGFL), a subsidiary of State Bank of India, is Non Banking

Financial Company regulated by Reserve Bank of India. SBIGFL provides Domestic and

Export Factoring services under one roof. It is headquartered in Mumbai with 11 Branches

across India. SBIGFL aims to be India's premier factoring company.

History

SBIGFL has been created out of merger of two leading Factoring Companies viz. SBI Factors

& Commercial Services Pvt. Ltd & Global Trade Finance Ltd. in the year 2010. Post merger,

Company was renamed as 'SBI Global Factors Ltd.' with effect from 18th March 2010.

SBIGFL-Member of Factors Chain International:

SBIGFL is a Member of Factors Chain International (FCI), an umbrella organisation of

worldwide factoring companies. FCI aims to facilitate international trade through factoring

and related financial services. Currently, the FCI network has 273 Factors in 75 countries,

actively engaged in more than half of the world's cross-border factoring volume.

1. VENDOR FACTORING FACILITY

In todays scenario, many of the manufacturing companies outsource their component

manufacturing /services with a view to maintain cost effectiveness, inventory management,

etc.

Vendor Factoring Facility introduced by SBIGFL helps Vendors from SME/MSME sector.

Features of Vendor Factoring Facility:

Vendor Factoring Facility will be extended by SBIGFL to small players in the market,

supplying to those corporate having strong financials/external credit rating.


The facility is primarily extended to Vendors with the Buyer (usually an Industry Major)

undertaking to settle the dues on the due date.

The Facility sanctioned to the Vendors will be With Recourse to them. The primary

liability to pay the invoices factored by SBIGFL will be that of the Buyer

2. EXPORT FACTORING

Need for Export Factoring:

International Business poses various risks and challenges like:

Risks arising out of non-payment, political risk, commercial risk, exchange control risks etc.

Difficulty to discover or understand the buyers financial situation.

Difficulty to understand the sovereign risks.

Lower realization in respect of sales against LCs inasmuch as the buyer is likely to deduct the

cost of establishing LCs.

Difficulties due to uniqueness of each geography with respect to currency, banking system,

local trade practices and legal system.

Customer's preference to trade in local currencies.

Resistance by most domestic banks to providing the necessary financing on export

receivables, which arise out of trade on open account terms.

Here, Export Factoring provides an attractive alternative. SBIGFL covers credit risk of the

exporter under Two Factor model of FI. Under this model, there are four parties involved in a

transaction: the exporter (seller), the domestic factoring company (viz. export factor), the

foreign factoring company (viz. import factor) and the customer (buyer).


Two-way Export Factoring System

1. Exporter Receives Purchase Order

2. Exporter Sends Importer's information for credit approval.

3. Export Factor Checks the importer's credit worthiness through FCI partner

4. Import Factor evaluates the importer and approves a credit limit.

5. Exporter makes shipment to importer

6. Exporter submits invoice details and supporting documents

7. Export Factor makes cash advance up to 90 of factored invoices.

8. Collections are carried out by the Import Factor

9. Import Factor remits funds to Export Factor

10. Export Factor remit 10% remaining balance to Exporter's account less any charges.

3. DOMESTIC FACTORING

Domestic Factoring is a process of factoring of accounts receivables generated out of sales

within India. The Seller assigns to the Factor the accounts receivables arising out of sales to

buyers within the country on open account terms and receives payment there against to the

extent of 80-90% from the Factor, depending upon the credit terms.


Characteristics of Domestic Factoring Receivables:

The sellers performance obligation should be completed before availing funding.

There should be a continuous sales flow on an ongoing basis with the same buyer or set of

buyer(s).

Suited for credit terms of 30-90 days.

Transactions between two parties should be on open account terms

Credit sales to a buyer to be assigned to SBIGFL on a continuous basis, once the factoring

arrangement is in place.

4. DEALERSHIP FACTORING FACILITY

Dealership Factoring will be extended by SBIGFL to the dealers (buyers) of industry majors

(Seller) within India.

Features of Dealership Factoring Facility:

Dealership factoring facility will be without recourse to the Seller. The facility will, however,

become with recourse to the Seller, in case of any commercial or quality dispute between the

Seller and the Buyer(Dealer ) or if the invoice is not accepted by the Buyer(Dealer).

SBIGFL will consider sanction of Dealership Factoring facility to the dealers, based on

strong recommendations of the Seller (Industry major) by way of a comfort letter, backed by

tripartite agreement.


FACTORING IN INDIA AND ROLE OF RESERVE

BANK

Factoring service, which is perceived as complimentary to bank finance, enables the

availability of much needed working capital finance for the small and medium scale

industries especially those that have good quality receivables but may not be in a position to

obtain enough bank finance due to lack of collateral or credit profile. By having a continuous

business relationship with the factoring companies, small traders, industries and exporters get

the advantage of improving the cash flow and liquidity of their business as also the facility of

availing ancillary services like sales ledger accounting, collection of receivables, credit

protection etc. Factoring helps them to free their resources and have a one stop arrangement

for various business needs enabling smooth running of their business.

The Kalyanasundaram Study Group set up by the Reserve Bank of India in January 1988 to

examine the feasibility and mechanics of starting factoring organizations in the country paved

the way for provision of domestic factoring services in India. The Banking Regulation Act,

1949 was amended to include factoring as a form of business in which the banks might

engage. Reserve Bank of India issued guidelines permitting the banks to set up separate

subsidiaries or invest in factoring companies jointly with other banks. However, it was

generally felt that absence of Factoring Law was one of the major impediments in the growth

of factoring business of the country including the heavy stamp duty over assignment deed,

ambiguity in the legal rights of Factors in respect of receivables etc.

Government of India enacted the Factoring Act, 2011 to bring in the much needed legal

framework for the factoring business in the country. It has provided definitions for the terms

factoring, factor, receivables and assignment. The Act also specifies that any entity

conducting factoring business would need to be registered with RBI as NBFCs; while

exempting banks, government companies and corporations established under an Act of

Parliament, from the requirement of registration with RBI for conducting factoring business.

The Act, thus, gave clarity to the activity of assignment of receivables and also granted

exemption from stamp duty on documents executed for the purpose of assignment of

receivables in favour of Factors thereby making the business more viable. The Act also

envisages that all transactions of assignment of receivables shall be registered with the

Central Registry established under the SARFAESI Act, 2002 to reduce the possibility of

frauds and for strengthening the due diligence process for the clients.

The Act has given powers to the Reserve Bank to stipulate conditions for principal business

of a Factor as also powers to give directions and collect information from factors. Subsequent

to the passing of the Act, the Reserve Bank has created a separate category of NBFCs viz;

NBFC-Factors and issued directions for their regulation. The prudential norms as applicable

to NBFCs engaged in lending business, has also been extended to the NBFC-Factors. Further,

bank finance to factoring companies and the factoring business conducted by banks are also

regulated by the RBI.

Challenges faced by factoring sector

Though the enactment of the Factoring Regulation Act has potentially removed all the major impediments that the factoring sector faced in the country, nevertheless, the

sector has few other items on its wish list, the primary among which are introduction


of credit insurance in the factoring business and extending the scope of SARFAESI

Act to cover NBFCs for speedy enforcement of security interest. As regards credit

insurance, the Finance Minister, in the Union Budget 2013-14, has made an

announcement for setting up a Credit Guarantee Fund with SIDBI for factoring, with

a Rs 5 billion corpus. As far as extension of the provisions of the SARFAESI Act to

NBFC is concerned, the final call rests with the Government of India.

Low penetration of factoring business in the country still remains a challenge which could be on account of lack of awareness among the users. With the necessary law

now in place, sincere attempts need to be made by the industry through its

associations and other fora for articulating the benefits of factoring as not just an

alternative source of finance but also an avenue for providing a bouquet of financial

services vis--vis traditional finance, to small scale industries. They should be able to

identify the untapped potential clientele, especially in various SME industry sectors,

and create awareness on how the higher cost of factoring vis--vis the traditional

finance is justifiable and cost effective for the businesses in the long run. Factoring

companies should also constantly endeavor to upgrade their expertise on both

technological front as also on the operational level for offering cost effective services

to their

Factoring in India

To you, as a provider of goods or services, this is a process where India Factoring pre-pays

against the credit invoices that you regularly raise on your established clients. In settlement of

this obligation, your clients pay India Factoring on the respective due dates directly.

How it works:

You deliver goods or services to your client and raise an invoice.

On an on-going basis, all such invoices of a pre-agreed buyer, along with supporting

trade documents are assigned to India Factoring.

India Factoring advances you a pre-payment as early as the next business day on receipt

of such documents (subject to being in order).

On settlement of the respective invoice by your buyer to India Factoring, the balance

amount (if any) is credited to your account.


Benefits :

You benefit from predictable cash flows linked directly to performed sales.

Readily convert credit receivables to cash, as India Factoring will provide pre-payment

immediately.

On submission of complete documentation, funding normally by next business day.

Quick turnaround times ensure incremental cash flow planning and management.

India Factoring can additionally provide credit assessment on customers, new or existing.

Free monthly Account Receivable reporting, sales ledger administration and debtor

follow-up.

No additional debt created on your balance sheet.

Your "credit line" grows as your business expands. Extremely scalable form of leverage.

Possibility of outsourcing your receivables collections process, allowing you to focus on

your core business.


GROWTH OF THE FACTORING INDUSTRY

IN INDIA

SLOW GROWTH REASONS

The overall worldwide growth in factoring is estimated at 12%. Europe has the largest market

representing 64% of the world volumes with a growth of 18% during the year. America's

growth was 10%, whereas Australia recorded impressive growth of 40%. Asia saw a fall in

volume.

The growth trends mentioned above support the fact that there is enormous scope for

expansion worldwide and India is no exception to this. The potential in India is estimated at

an annual turnover of Rs. 15000 to Rs. 20000 cr. but large portion is untapped because of the

following reasons:

Factoring is a standalone Product: Factoring is similar to Bill Discounting- What people fail to understand is that though it is similar only in one aspect, i.e., both

provides short term finance against receivables, factoring also provides a package of

other services.

Non-Recourse factoring is almost missing: Recourse factoring only provides financing but not credit covers, whereas in case of non-recourse factoring, in the event

of default of a customer, the factor will bear the risk of bad debt. However, the

facility, which will attract more clients, is almost missing, in India Customers are still

not aware of factoring Services: Factors have not been successful in creating

awareness about the concept of factoring. The difference between factoring and bills

discounting is still not clearly understood. The customers are still not aware of the

extra benefits and services they can enjoy through factoring; they are not demanding

these services from factoring service providers

.

Bankers do not permit their Customer to Shift their Business to Factors: Every businessman invariably has dealings with a bank. Hence, his banker does not permit

him to shift his account receivables business to a factor, but promises to meet his

requirements.

Network of branches is poor for factoring.


FUTURE PLANS OF GROWTH OF FACTORING IN INDIA:

The long held view that India is just a services hub is also changing fast. India's

manufacturing sector is making rapid strides and could really be the base for the next wave of

growth. There is a well-known saying in investment circles that you should invest in an

emerging economy when the first international airport is built and you should exit when the

second airport comes up i.e. exit at the first signal of over-investment. China may soon reach

the second airport stage. In the event.

1. India would make an even bigger potential growth story in the years to come. India is evolving from a command economy focused on self-sufficiency to becoming a key

link in the global economic chain.

2. India is well positioned by geography, language, and historical association to service customers in advanced economies. India also has historical trading links with the

Middle East and Africa as well as its own South Asian neighbors.

3. As the manufacturing base of a country expands, the scope for factoring also increases. At the micro level, factoring is tailor-made for a company on the path of

high-octane growth; just as at the macro level it is suited for a growing economy like

India.

4. There is only one direction in which factoring can go in India: upwards. As the awareness level about the benefits of factoring increases, factoring will spread its

wings across the length and breadth of the country.

LIMITATIONS

The basic disadvantage of is that it may lead to ruined relations with the customers

especially if factor engages in aggressive or unprofessional practices when collecting

accounts

Cost is another disadvantage; cost involved in factoring agreement may be more than

the cost of other methods of financing available in the business.


CONCLUSION

Factoring should be used by the firms by keeping in view the financial position of the factor.

At the end it is to be concluded that factoring is now gaining its importance in India slowly

with the increase in customer's access to benefits of factoring. India's future in factoring

business seems to be luring on the facts obtained regarding the fast growth of 174 % in only 4

years .So for factoring to be successful in India government regulation/ policies need to be

modified further so that more and more private players can come forward to start up their

factoring business in India .Customer awareness about benefits of factoring is to be increased

further to fight back the global leaders in factoring business.

Factoring is nothing just financing the seller against his trade debts by the factor who is a

financial institution so that he may not face deficiency of working capital and may further go

for production process or for any other investment plan that is available before him as a

future opportunity.

Today, factoring industry in India is facing severe problems due to the absence of proper laws

and legislations although in February, 1994, RBI has permitted all banks to enter into

factoring business departmentally. Government agencies and PSUs neither promptly make

payments nor they pay interest on delayed payment. Legislation is required to

comprehensively support the establishment and operation of efficient and viable factoring

services in India. This is required to empower factors to recover money from defaulting

companies.

Proper legislation is required to exempt factoring firms from the provisions of money lending

legislations.

An open account, or open- end credit, is credit extended by the selling company under a plan

in which there is no formal documentation of the sales transactions, and the selling company

sends a regular statement to notify its customers of their outstanding credit amounts.

The knowledge about the benefits of the factoring should be made available to every business

entities especially to small scale and medium scale industries so that they can this facility at

the time of requirement of finance or any other type of services comes under the factoring.

factoring

Documents

meaning of factoring

benefits of factoring

disadvantages of factoring

history of factoring

process of factoring

participants of factoring

functions of factoring

types of factoring