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Factoring is an asset-based method of financing being the purchase of book debts of a Company by the Factor, thus realising the capital tied up in accounts receivables & providing financial accommodation to the Company.

Contract between the Factor and Supplier that involves:

  • Supplier assigns/sells receivables to the Factor

  • Factor performs the following:

  1. Financing of the invoices

  2. Collection of receivables

  3. Sales ledger maintenance

  4. Credit protection against bad debt

  • Notice for assignment of receivables is given to Debtors


Factoring Process:


How does it work?

  • The Seller makes a sale, delivers the product or service, and generates an invoice. The Factor buys the right to collect on that invoice by paying the Seller invoice’s face value less a discount (say 15% to 30%). The Factor pays 70% to 85% immediately and pays the remains the when the Buyer pays.

  • Factor is more focussed on Buyer’s ability to pay than the Sellers financial status.

  • It’s a financing transaction to generate cash flow for the Seller.


Factoring Features


  • Immediate realisation of cash from Factor

  • No cost to the Buyer

  • Credit Insurance up to say 90% of invoice value

  • Sales ledger maintenance

  • Cost savings


Types of Factoring


1.Recourse factoring

Agreement where a company sells its current invoices to a Factoring Company with the understanding that the company will buy them back if they go uncollected.


2.Non-recourse factoring

Allows a company to sell its invoices to a Factoring Company without the obligation of absorbing any unpaid invoices. Instead, if the customers renege on their payments or pay their invoices late any losses are absorbed by the Factoring Company, leaving the business unscathed.


3.Confidential and undisclosed factoring

Arrangement between the factor and the client are left un-notified to the customers and the client collects the bills from the customers without intimating them to the factoring arrangements.



Reverse Factoring


Reverse factoring is also known as supply chain finance. It is a buyer led financing option wherein both the suppliers & the buyers receive a short-term credit against the invoice.


Under reverse factoring, the suppliers sell invoices to banks or financial institutions at a pre-determined discount rate. By selling invoices the supplier gets immediate access to cash whereas buyers get more time to pay the invoices. We can say that reverse factoring is a three-way financing process wherein supplier, buyer & financial institution, all three are involved in the transaction.


Reverse Factoring Process


  1. The buyer places an order with the supplier

  2. Supplier fulfills the order and makes invoice for the buyer

  3. The buyer then approves the supplier’s invoice and confirms that it will pay the bank/financial institution at maturity of the invoice

  4. The supplier then sells the invoice to bank/financial institution at a predetermined discount rate

  5. Thereafter the supplier receives the payment (funds) against the invoice immediately from the bank/financial institution

  6. As agreed by the buyer, at the maturity of invoice, buyer pays the invoice amount to bank/financial institution





  • Forfaiting is a mechanism where the exporter surrenders its rights to receive payment against the goods and services rendered to the importer, in exchange for a cash payment from the forfaiter.

  • A written letter of credit or a guarantee is made by a bank, usually in the importer’s country.

  • In forfaiting arrangements, the trade receivables are financed up to 100% without recourse. The arrangements can involve dealing with negotiable instruments.

  • Improves exporters working capital requirements.

  • Removes the receivable from your balance sheet in accordance with IAS 39 accounting standards.



Factoring vs Forfaiting

  • Factoring is both domestic and foreign trade finance. Whereas forfaiting is only financing of foreign trade.

  • Factoring provides only say 80% of the invoice. But 100% finance is provided in forfaiting.

  • In factoring, invoice is purchased belonging to the client. Whereas the export bill is purchased in forfaiting.

  • Factoring transaction does not set up in Negotiable Instrument. Forfaiting establishes on negotiable instrument.

  • Factoring may have recourse to seller in case of default by buyer. But there is no recourse to exporter in forfaiting.

  • Factoring may be financing a series of sales involving bulk trading. Only a single shipment is financed under forfaiting.

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