Group 7

Credit Factoring And Forfaiting

WHAT IS FACTORING ?
Factoring is the Sale of Book Debts by a firm (Client) to
a financial institution(Factor) on the understanding that
the Factor will pay for the Book Debts asand when they
are collected or on a guaranteed payment date.
Normally, the Factor makes a part payment (usually upto
80%) immediately after the debts are purchased
thereby providing immediate liquidity to the Client.


PROCESS OF FACTORING



CLIENT
CUSTOMER
FACTOR
So, a Factor is,

a) A Financial Intermediary
b) That buys invoices of a manufacturer or a trader, at a discount,
and
c) Takes responsibility for collection of payments.


The parties involved in the factoring transaction are:-

a) Supplier or Seller (Client)
b) Buyer or Debtor (Customer)
c) Financial Intermediary (Factor)
SERVICES OFFERED BY A FACTOR
Follow-up and collection of Receivables from Clients.Purchase
of Receivables with or without recourse.
In a recourse agreement the exporter has to repurchase or pay
for any invoices the factor cannot collect from the exporter's
customers.
Help in getting information and credit line on customers (credit
protection) Sorting out disputes, if any, due to his relationship
with Buyer & Seller.
For instance in retailing, the credit card business is a clear
example of factoring.

PROCESS INVOLVED IN FACTORING
Client concludes a credit sale with a customer.
Client sells the customers account to the Factor and notifies the
customer.
Factor makes part payment (advance) against account purchased,
after adjusting for commission and interest on the advance.
Factor maintains the customers account and follows up for
payment.
Customer remits the amount due to the Factor.
Factor makes the final payment to the Client when the account is
collected or on the guaranteed payment date.
Advantages
Firms resorting to factoring also have the added attraction of
ready source of short-term funds.
This form of finance improves the cash flow and is invaluable as it
leads to a higher level of activity resulting in increased
profitability.
By offloading the sales accounting and administration, the
management has more time for planning, running and
improving the business, and exploiting opportunities.
The reduction in overheads brought about by the factors
administration of the sales ledger and the improved cash flows
becauseof the quicker payments by the customers result in
interest savings and contribute towards cost savings.

Disadvantages
Factoring could prove to be costlier to in-house management
of receivables, specially for large firms which have access to
similar sources of funds as the factors themselves and which
on account of their size have well organised credit and
receivable management.

Factoring is perceived as an expensive form of financing and
also as finance of the last resort. This tends to have a
deleterious effect on the creditworthiness of the company in
the market.

FORFAITING
Forfaiting is the term generally used to denote the purchase of
obligations falling due at some future date, arising from deliveries of
goods and services - mostly export transactions - without recourse to
any previous holder of the obligation.

Forfaiting is the term generally used to denote the purchase of
obligations falling due at some future date, arising from deliveries of
goods and services - mostly export transactions - without recourse to
any previous holder of the obligation.

Historical Development of Forfaiting
The origins of the forfaiting market lie in changes in the world
economic structure during

The early sixties, when trade between Western and Eastern
Europe was re-established.

The growing importance of trade with developing countries in
Africa, Asia and Latin America boosted the forfaiting market to an
international level.
Advantages of Forfaiting
100 % Risk Cover
Country Risk (Political & Transfer Risk)
Currency Risk
Commercial Risk
Interest Rate Risk
Instant Cash
Flexibility and Simplicity
General Aspects of Forfaiting
Repayments / Amounts
Currency
Discounting
Type of Instrument
Promissory Note / Bill of Exchange
Without Recourse Clause
Effective / Net of Deduction Clause
Book Receivables / Letters of Credit

BENEFITS TO EXPORTER FROM
FORFAITING
Converts deferred payment into cash transaction, improves
liquidity and cash flow
Frees Exporter from cross-border political or commercial risk
Finance upto 100 % of Value
Being without recourse to drawer, it does not impact exporters
borrowing limits. It is an additional source of finance.
Provides fixed rate finance, hedges against exchange and
interest risk
Frees exporter from credit administration and collection problems.
Exporter saves on insurance cost since forfaiting obviates need
for export credit insurance
Exporter can consider exporting to countries which are risky

MECHANICS OF FORFAITING
EXPORTER IMPORTER
FORFAITER AVALLING BANK
HELD TILL MATURITY
SELL TO GROUPS OF INVESTORS
TRADE IN SECONDARY MARKET
Why do we need Factoring and Forfaiting
Conventional financing methods like bank loans, equity financing
etc. come with a lot of conditions and strings attached which new
or small exporters find difficult to meet.

For instance new firms may find it difficult to raise bank loans
(since there is no proof that business will be viable, no balance
sheets to show healthy profits). Equity participation implies a
more long-term commitment and accountability towards the
shareholders.
Factoring and Forfaiting
Both provide immediate cash to the exporter that virtually wipes
out (for the exporter) the credit period extended to the importer.
This credit period extends from the time of shipment of goods to
the time of receipt of payment from the buyer abroad. The credit
period can extend from a couple of months to several years (in
the case of deferred payment contracts, project exports etc.) and
hits the liquidity of many export businesses.
Forfaiting and factoring are similar in that a third (factoring or
forfaiting) agency takes over the accounts/trade receivables of
the exporter at a certain discount. The exporter in turn receives
immediate reimbursement of the receivables less the discount
due to the factoring or
FACTORING vs. FORFAITING
POINTS OF
DIFFERENCE
FACTORING FORFAITING
Extent of Finance Usually 75 80% of the
value of the invoice
100% of Invoice value
Credit
Worthiness
Factor does the credit
rating in case of non-
recourse factoring
transaction
The Forfaiting Bank
relies on the
creditability of the
Avalling Bank.
Services provided Day-to-day administration
of sales and other allied
services
No services are
provided
Recourse With or without recourse Always without
recourse
Sales By Turnover By Bills

Thank You