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GROUP MEMBERS: O.P. SHARMA- 15 PRANAV GUPTA- 17 DHRUV BATLA- 215 AVINASH TIWARI- 06 MEGHNA DIXIT- 219
FACTORING AND FORFAITING
Factoring is of recent origin in Indian Context. Kalyana Sundaram Committee recommended introduction of factoring in 1989. Banking Regulation Act, 1949, was amended in 1991 for Banks setting up factoring services. SBI/Canara Bank have set up their Factoring Subsidiaries:-
SBI Factors Ltd., (April, 1991) CanBank Factors Ltd., (August, 1991).
RBI has permitted Banks to undertake factoring services through subsidiaries.
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 as and 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. 1
PROCESS OF FACTORING
and Takes responsibility for collection of payments. a) b) c) A Financial Intermediary That buys invoices of a manufacturer or a trader. a Factor is.So. at a discount. The parties involved in the factoring transaction are:- a) Supplier or Seller (Client) b) c) Buyer or Debtor (Customer) Financial Intermediary (Factor) .
2. due to his relationship with Buyer & Seller. 3. Help in getting information and credit line on customers (credit protection) 4. . if any. Follow-up and collection of Receivables from Clients. Sorting out disputes. Purchase of Receivables with or without recourse.SERVICES OFFERED BY A FACTOR 1.
Client sells the customer’s account to the Factor and notifies the customer. Factor makes part payment (advance) against account purchased.PROCESS INVOLVED IN FACTORING Client concludes a credit sale with a customer. after adjusting for commission and interest on the advance. . Factor makes the final payment to the Client when the account is collected or on the guaranteed payment date. Factor maintains the customer’s account and follows up for payment. Customer remits the amount due to the Factor.
b. e. c. The balance is retained as Retention Money (Margin Money). The drawing limit is adjusted on a continuous basis after taking into account the collection of Factored Debts. The Client (Seller) submits invoice copy only with Delivery Challan showing receipt of goods by buyer. The Factor.MECHANICS OF FACTORING a. f. statements to the Client. after scrutiny of these papers. This is also called Factor Reserve. the Factor follows up the payment and sends regular . to the Factor. d. the Retention Money credited to the Client’s Account.usually upto 80% of invoice value). allows payment (. The Client (Seller) sells goods to the buyer and prepares invoice with a notation that debt due on account of this invoice is assigned to and must be paid to the Factor (Financial Intermediary). Once the invoice is honoured by the buyer on due date. Till the payment of bills.
50% to 1. Interest is higher than rate of interest charged on Working Capital Finance by Banks. .CHARGES FOR FACTORING SERVICES Factor charges Commission (as a flat percentage of value of Debts purchased) (0. If interest is charged up-front.50%) Commission is collected up-front. interest charged. it is called discount. For making immediate part payment.
TYPES OF FACTORING Recourse Factoring Non-recourse Factoring Maturity Factoring Cross-border Factoring .
Credit Risk is with the Client. Interest is charged from the date of advance to the date of collection. Factor does not participate in the credit sanction process. . In India.RECOURSE FACTORING Upto 75% to 85% of the Invoice Receivable is factored. factoring is done with recourse. Factor purchases Receivables on the condition that loss arising on account of non-recovery will be borne by the Client.
Higher commission is charged.NON-RECOURSE FACTORING Factor purchases Receivables on the condition that the Factor has no recourse to the Client. factoring is commonly done without recourse. Credit risk is with the Factor. if the debt turns out to be non-recoverable. Factor participates in credit sanction process and approves credit limit given by the Client to the Customer. . In USA/UK.
. Nominal Commission is charged.MATURITY FACTORING Factor does not make any advance payment to the Client. Guaranteed payment date is usually fixed taking into account previous collection experience of the Client. No risk to Factor. Pays on guaranteed payment date or on collection of Receivables.
. a) Exporter. c) Import Factor.BORDER FACTORING It is similar to domestic factoring except that there are four parties. viz. b) Export Factor. and d) Importer.CROSS ..
Factor covers exchange risk also. Notation is made on the invoice that importer has to make payment to the Import Factor. Where foreign currency is involved.CONTD… It is also called two-factor system of factoring. Import Factor collects payment and remits to Export Factor who passes on the proceeds to the Exporter after adjusting his advance. Export Factor enters into arrangement with Import Factor and has arrangement for credit evaluation & collection of payment for an agreed fee. . Exporter (Client) enters into factoring arrangement with Export Factor in his country and assigns to him export receivables. if any.
Factor has responsibility of Sales Ledger Administration and collection of Debts. 2. Financial Institution does not have responsibility of Sales Ledger Administration and collection of Debts. 3. 2.FACTORING vs BILLS DISCOUNTING BILL DISCOUNTING 1. 1. . No notice of assignment provided to customers of the Client. FACTORING 1. Bill is separately examined and discounted. Pre-payment made against all unpaid and not due invoices purchased by Factor. Notice of assignment is provided to customers of the Client.
Factor cannot re-discount the receivable purchased under advanced factoring arrangement. 5. Bills discounting is usually done with recourse. In India. . Factoring can be done without or without recourse to client. FACTORING 4. Financial Institution can get the bills re-discounted before they mature for payment.FACTORING vs BILLS DISCOUNTING (contd…) BILLS DISCOUNTING 4. it is done with recourse. 4.
e.STATUES APPLICABLE TO FACTORING Factoring transactions in India are governed by the following Acts:- a. Sale of Goods Act c. . Foreign Exchange Regulation Act. Transfer of Property Act d. Banking Regulation Act. Indian Contract Act b.
. Factoring requires assignment of debt which attracts Stamp Duty. Problems in recovery.WHY FACTORING HAS NOT BECOME POPULAR IN INDIA Banks’ reluctance to provide factoring services Bank’s resistance to issue Letter of Disclaimer (Letter of Disclaimer is mandatory as per RBI Guidelines). Cost of transaction becomes high.
. while Factoring deals with short term receivables. Forefaiting is a mechanism by which the right for export receivables of an exporter (Client) is purchased by a Financial Intermediary (Forfaiter) without recourse to him. It is different from International Factoring in as much as it deals with receivables relating to deferred payment exports.FORFAITING “Forfait” is derived from French word ‘A Forfait’ which means surrender of fights.
Forfaiting is arrangement without recourse to the Exporter (seller) Operated on fixed rate basis (discount) Finance available upto 100% of value (unlike in Factoring) Introduced in the country in 1992. . Credit Sale gets converted as Cash Sale.FORFAITING (contd…) Exporter under Forfaiting surrenders his right for claiming payment for services rendered or goods supplied to Importer in favour of Forefaiter. Bank (Forefaiter) assumes default risk possessed by the Importer.
MECHANICS OF FORFAITING EXPORTER IMPORTER FORFAITER AVALLING BANK HELD TILL MATURITY SELL TO GROUPS OF INVESTORS TRADE IN SECONDARY MARKET .
unless the Exporter is a Government Agency or a Multi National Company.ESSENTIAL REQUISITES OF FORFAITING TRANSACTIONS Exporter to extend credit to Customers for periods above 6 months. Co-acceptance acts as the yard stick for the Forefaiter to credit quality and marketability of instruments accepted. . Exporter to raise Bill of Exchange covering deferred receivables from 6 months to 5 years. Repayment of debts will have to be avallised or guaranteed by another Bank.
Avalled notes sold at a discount to a Forefaiter on a NON-RECOURSE basis. Avalled notes are returned to the Importer. Exporter obtains finance. Forfaiter holds the notes till maturity or securitises these notes and sells the Short Term Paper either to a group of investors or to investors at large in the secondary market.IN FORFAITING: Promissory notes are sent for avalling to the Importer’s Bank. Avalled notes sent to Exporter. .
CHARACTERISTICS OF FORFAITING Converts Deferred Payment Exports into cash transactions. not arise. It does not reflect as debt in Exporter’s Balance Sheet. Absolves Exporter from Cross-border political or conversion risk associated with Export Receivables. providing liquidity and cash flow to Exporter. Acts as additional source of funding and hence does not have impact on Exporter’s borrowing limits. Finance available upto 100% (as against 75-80% under conventional credit) without recourse. Provides Fixed Rate Finance and hence risk of interest rate fluctuation does .
Provides long term credit unlike other forms of bank credit.CHARACTERISTICS OF FORFAITING (contd….) Exporter is freed from credit administration. Forfait transactions are confidential. no need to commit all of his business or significant part of business. Saves on cost as ECGC Cover is eliminated. Forfait financer is responsible for each of the Exporter’s trade transactions. Hence. . Simple Documentation as finance is available against bills.
Service Charges:.payable to Exim Bank.5% to 1. Commission:.where elaborate legal formalities are involved. Documentation Fee:. .5% per annum.Ranges from 0.COSTS INVOLVED IN FORFAITING Commitment Fee:. Discount Fee:.Discount rate based on LIBOR for the period concerned.Payable to Forfaiter by Exporter in consideration of forefaiting services.
FACTORING vs. FORFAITING POINTS OF DIFFERENCE Extent of Finance FACTORING Usually 75 – 80% of the value of the invoice FORFAITING 100% of Invoice value The Forfaiting Bank relies on the creditability of the Avalling Bank. No services are provided Always without recourse Credit Worthiness Factor does the credit rating in case of nonrecourse factoring transaction Services provided Day-to-day administration of sales and other allied services With or without recourse Recourse Sales By Turnover By Bills .
Recourse Individual Sale Transaction Upto 75 – 80% With Recourse FACTORING Service of Sale Transaction Upto 80% With or Without Recourse Done Short Term Assignment FORFAITING Individual Sale Transaction Upto 100% Without Recourse 4. Scrutiny 2. Charge Creation Hypothecation . Extent of Finance 3. Term Not Done Short Term Not Done Medium Term Assignment 6. Sales Administration 5.COMPARATIVE ANALYSIS BILLS DISCOUNTED 1.
Very few institutions offer the services in India. Lack of awareness.WHY FORFAITING HAS NOT DEVELOPED Relatively new concept in India.000/-) RBI Guidelines are vague. Exim Bank alone does. . Long term advances are not favoured by Banks as hedging becomes difficult. Depreciating Rupee No ECGC Cover High cost of funds High minimum cost of transactions (USD 250.
STAGES INVOLVED IN FORFAITING: Exporter approaches the Facilitator (Bank) for obtaining Indicative Forfaiting Quote. Exporter approaches the Bank (Facilitator) for obtaining quote from Forfaiting Agencies. Execution of Forfaiting Agreement with Forefaiting Agency. . Facilitator obtains quote from Forfaiting Agencies abroad and communicates to Exporter. Export Contract to provide for Importer to furnish avalled BoE/DPN. Exporter has to enter into commercial contract. Exporter has to confirm the Firm Quote. If terms are acceptable. Exporter approaches importer for finalising contract duly loading the discount and other charges in the price.
Importer’s Bank confirms their acceptance of BoE/DPN to Forfaiter. Forfaiter presents the instrument to the Bank and receives payment. Forfaiter remits the amount after deducting charges..) Forfaiter commits to forefait the BoE/DPN.STAGES INVOLVED IN FORFAITING:(contd…. Otherwise. Export Documents are submitted to Bank duly assigned in favour of Forfaiter. Forfaiter commits to forefait the BoE/DPN only against Importer Bank’s Coacceptance. only against Importer Bank’s Coacceptance. On maturity of BoE/DPN. LC would be required to be established. LC would be required to be established. Otherwise. . Bank sends document to Importer's Bank and confirms assignment and copies of documents to Forefaiter.
. viz. Import Factor decides on the credit cover and communicates decision to Export Factor. Exporter is then free to ship the goods to Buyers directly. . address and credit limit required to the Export Factor.STAGES INVOLVED IN EXPORT FACTORING Exporter (Client) gives his name. Exporter submits original documents. invoice and shipping documents duly assigned and receives advance there-against (upto 80%). Export Factor enters into Factoring Agreement with Exporter. Export Factor submits the details of Buyer to the Import Factor. Overseas Buyer is notified of this arrangement.
STAGES INVOLVED IN EXPORT FACTORING (contd…. releases the balance of proceeds to Exporter. Export Factor.) Export Factor despatches all the original documents to Importer/Buyer after duly affixing “Assignment Clause” in favour of the Import Factor. Export Factor sends copy of invoice to Import Factor in the Debtor’s country. .. Import Factor follows up and receives payment on due date and remits to Export Factor. on receipt of payment.
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