Download VTU (Visvesvaraya Technological University) MBA 3rd Semester (Third Semester) 16MBAFM302-Financial Services FS Notes Unit 4 Important Lecture Notes (MBA Study Material Notes)
Factoring, Forfeiting & Securitization of Debt
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
Features of Securitization of Debt
? Marketability
? Merchantable quality
? Wide distribution
? Homogeneity
? Commoditisation
? Integration and differentiation (pooling and
separation of assets)
? De-construction of claims to various cash flows and
rearrange them into various buckets and sell them to
different investors
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
Features of Securitization of Debt
? Marketability
? Merchantable quality
? Wide distribution
? Homogeneity
? Commoditisation
? Integration and differentiation (pooling and
separation of assets)
? De-construction of claims to various cash flows and
rearrange them into various buckets and sell them to
different investors
Parties involved in securitization of debt
? Originator or seller: whose receivables portfolio forms the basis
for asset backed security (ABS)
? Special purpose vehicle (SPV): formed to carryout a special
activity. Can be trusts, corporations, limited partnerships, LLCs,
this helps distancing of the instrument from the originator. It
mediates between the originator and the investor.
? Investors: individuals or institutional investors who invest and
receive interest and principal as per agreed norms
? Other parties
? Obligor: originator?s debtor or borrower of the original loan
? Trustee: investors representative to safeguard their interest
? Credit rating agency
? Regulators
?Service providers
?Specialists like legal, accounts, pool auditors
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
Features of Securitization of Debt
? Marketability
? Merchantable quality
? Wide distribution
? Homogeneity
? Commoditisation
? Integration and differentiation (pooling and
separation of assets)
? De-construction of claims to various cash flows and
rearrange them into various buckets and sell them to
different investors
Parties involved in securitization of debt
? Originator or seller: whose receivables portfolio forms the basis
for asset backed security (ABS)
? Special purpose vehicle (SPV): formed to carryout a special
activity. Can be trusts, corporations, limited partnerships, LLCs,
this helps distancing of the instrument from the originator. It
mediates between the originator and the investor.
? Investors: individuals or institutional investors who invest and
receive interest and principal as per agreed norms
? Other parties
? Obligor: originator?s debtor or borrower of the original loan
? Trustee: investors representative to safeguard their interest
? Credit rating agency
? Regulators
?Service providers
?Specialists like legal, accounts, pool auditors
Benefits of Securitization of Debt
1. Benefits to issuers / originator
? Diversification and reduced cost of funding
? Management of regulatory capital
? Generation of servicing fee income
? Management of interest rate volatility
2. Benefits to Investors
3. Benefits to borrowers
Issues in securitization of debt
? Debility (incapability) to central bank
? Heightened volatility
? Pressure on profitability
? Eroding capital base
Link for you tube video
https://www.youtube.com/watch?v=r55fXJsRwvA
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
Features of Securitization of Debt
? Marketability
? Merchantable quality
? Wide distribution
? Homogeneity
? Commoditisation
? Integration and differentiation (pooling and
separation of assets)
? De-construction of claims to various cash flows and
rearrange them into various buckets and sell them to
different investors
Parties involved in securitization of debt
? Originator or seller: whose receivables portfolio forms the basis
for asset backed security (ABS)
? Special purpose vehicle (SPV): formed to carryout a special
activity. Can be trusts, corporations, limited partnerships, LLCs,
this helps distancing of the instrument from the originator. It
mediates between the originator and the investor.
? Investors: individuals or institutional investors who invest and
receive interest and principal as per agreed norms
? Other parties
? Obligor: originator?s debtor or borrower of the original loan
? Trustee: investors representative to safeguard their interest
? Credit rating agency
? Regulators
?Service providers
?Specialists like legal, accounts, pool auditors
Benefits of Securitization of Debt
1. Benefits to issuers / originator
? Diversification and reduced cost of funding
? Management of regulatory capital
? Generation of servicing fee income
? Management of interest rate volatility
2. Benefits to Investors
3. Benefits to borrowers
Issues in securitization of debt
? Debility (incapability) to central bank
? Heightened volatility
? Pressure on profitability
? Eroding capital base
Link for you tube video
https://www.youtube.com/watch?v=r55fXJsRwvA
Special Purpose vehicle
? SPV is created to carry-out a specific business purpose or
activity.
? SPVs are frequently used in structured finance transactions,
such as in asset securitizations, joint ventures, or to isolate
certain company asset or operations. SPVs can be created
through a variety of entities, such as trusts, corporations,
limited partnerships, and limited liability corporations.
? SPV are used by many companies for an array of financing
purposes.
? SPV which as the issuer of the ABS ensures adequate
distancing of the instrument from the originator.
? The entity that intermediates between the originator of the
receivables and the end-investors is known as ?Special
Purpose Vehicle?.
FirstRanker.com - FirstRanker's Choice
Unit 4
Factoring, Forfeiting & Securitization of Debt
Factoring
Introduction
? Factoring is a financial transaction whereby a business sells its
accounts receivables i.e invoices to a third party called a factor at
a discount in exchange for immediate money.
? Factoring involves a seller/client and a buyer/customer and a
factor.
? Vaghul committee on money market recommended development
of factoring business to benefit SSIs through banks and non-
banking financial institutions.
? Kalyanasundaram committee of 1988 recommended 3 - 4 banks
in a zone to start this service through subsidiaries.
? In 1991 SBI and Canara Bank set up factoring services through
their 2 subsidiaries in the western and southern region.
? Awareness about factoring services is still very low in India.
Proper marketing efforts needs to be put in this direction
Meaning : Latin term ?factor? which means ?doer?.
?Factor is one who lends money to producers and dealers on the security
of accounts receivables?
? Factoring is a financial transaction whereby a business sells its accounts
receivables to a third party at a discount in exchange for immediate
money.
? Factor is a financial institution which manages the collection of account
receivables of the companies on their behalf and bears the credit risk
associated with those accounts.
Mechanism
? The customer places an order for goods on credit, client delivers the
goods and sends credit invoice.
? Client sends invoice to factor
? Factor makes pre-payment upto 80 per cent to client
? Factor starts managing debt with the buyer.
? Customer pays the factor
? Factor pays balance 20 per cent to the client, after deducting commission
Characteristics of factoring
? It is a mode of financing as well as a financial service provided by
the specialist companies called factors
? It is a contractual service arising out of the agreement between the
business firm and the factors
? Continuous arrangement between the factor and the clients firm
? It enables the conversion of outstanding receivables into cash flows
? It involves an outright sale of book debts to the factor by the client
? Factor makes an advance payment (80% to 90%) against the
invoice factored by the clients firm
? Factor may assume the credit risk or may not assume the credit
risk arising from the collection of receivables
? Factor undertakes the services of credit collection, sales ledger
maintenance etc
Functions of Factoring
? Finance: Acts as a source of short term funds as the
factor pays upto 80% of the outstanding and pays the
balance minus commission on maturity.
? Debt administration: The factor maintains sales ledger
showing outstanding position. He sends monthly updates
to the client
? Credit risk: The factor will advice the client about credit
worthiness of different buyers and help them in credit
protection. Without recourse factoring also helps in full
credit protection to the clients
? Advisory services: Factor provides clients advice of
finance, buyer management, credit sales and also other
issues related to sales and finance management
Types of Factoring
? Recourse factoring: Factor purchases trade debtors and puts efforts to
collect receivables. But in case of default factor takes recourse to the client.
Therefore this kind of factoring has no bad debt protection. Popular in
developing countries.
? Non-recourse factoring: If the trade debtor fails to pay, the factor cannot
recover the money from the client. This gives bad debts protection to the
client and therefore is bit expensive. Famous in developed countries.
? Advance factoring: The factor pays only a specified advance of say 75%-
90% of the receivables in advance and the balance is paid on the date of
collection of debt. A drawing limit is opened as soon as the invoices are
raised. Client has to pay interest on the factored amount from the date of
payment to the date of actual collection.
?Bank participation factoring: Is a modification over advance factoring
where a bank provides a part of the factor reserve. Factor reserve is total
receivables less advance given by the factor. If factor advances 75%, factor
reserve is 25% and bank would pay say 50% of that reserve making entire
support 87.5%
?Maturing factoring/Collection factoring: No advance payment is made by
the factor. But payment is done on the date of collection or guaranteed
payment date which is usually a few days after due date of invoice.
Notified and Undisclosed factoring: In notified factoring the customer
is informed about assignment of debt to the factoring agent and told to
pay to the factor instead of the firm. In a non-notified or confidential or
undisclosed factoring the factoring arrangement is not disclosed to the
customer but the customer is required to pay to the new party
Full factoring: This provides all the services involved in factoring like
collection, credit protection, sales ledger protection and short term
finance. It is also called old line factoring.
Invoice factoring: The debt due to the client is purchased by the factor
providing liquidity but it doesn?t provide the service element of factoring.
Buyer based, seller based and selective factoring: In a buyer based
factoring the factor would maintain a list of buyers whose receivables
would be factored without recourse to the seller. In a seller based
factoring system, the factoring agent keeps a list of seller whose bills he
would like to factor with or without recourse. In selective factoring the
seller is restricted to sell to the approved buyer.
Export factoring: Also known as international or cross-border factoring.
Deals in export sale and provides financial service, collection service,
advisor service and services pertaining to legal formalities of exports.
Factoring charges
Finance charges: are levied based on pre-payment
amount outstanding in clients accounts on a monthly
basis. It is only for the money lent and is similar to
interest charged by banks on a cash credit account
Service fee: This is to cover the services provided like
collection, sales ledger management, periodical reports. It
is charged on a monthly basis based on sales value,
number of customers, number of invoices, and the degree
of credit risk posed by the buyers.
Both these charges compare favourably with interest rates
charged by banks for short term borrowings.
Forfeiting
? Forfeit means ?relinquish or give up a right?
? It refers to exporter giving up his right to a receivable due at a
future date in favour of immediate cash, at an agreed
discount from a forfeiter, thereby passing all risks of
collection to the forfeiter.
? It refers to factoring without recourse to the exporter.
? Evolved in 1960s in Switzerland to help German exporters to
the eastern block countries.
? It mushroomed in Switzerland and now it is concentrated in
London.
? RBI approved forfeiting as a mode of export finance in 1992.
?Exim bank was the first institution to get approved under this.
Characteristics of Forfeiting
It is a pure financial arrangement
? It is related to credit sales of more than 90 days (long term
receivables)
? Forfeiter discounts entire value of the bill thereby providing full
finance to the exporter.
? Availing bank provides unconditional and irrevocable
guarantee, which is a critical element of this arrangement
? Usually a forfeiter finances long term deferred payments of 3-5
years
? Forfeiter bears credit risk and exchange risk as well.
? A forfeiter may hold the bills till maturity or sell them off in the
secondary market
? Forfeiting agreement can be flexible and can be structured
around various needs like interest rates, duration, etc
? Usually suitable for high value items like capital goods,
consumer durables, projects exports etc.
Forfeiting Mechanism
? Forfeiter gives a commitment to the exporter about forfeiting at
the time of shipment
? Exporter and importer sign a commercial contract
? A forfeiting certificate issued by the AD is attached to GR form
and sent to importer along with commercial documents.
? The importers bank gives guarantee at the request of the
importer.
? The guarantee is forwarded by the importer to the exporter
? The exporter then assigns the guarantee in favour of the
forfeiter
? Forfeiter pays the exporter on a non-recourse basis
? On maturity the forfeiter presents the documents to the
importers bank
? Importer pays the guaranteeing bank
? Guaranteeing bank pays the forfeiter
Forfeiting charge
? Discount fees: Cost of interest for the credit period on the
discounted amount.
? Option fee: Charged for right to withdraw unilaterally from the
forfeiting contract
? Collection cost: Cost of collection charged to the exporter
? Commitment fee: Commitment fee charged by the forfeiter for
the period between signing of agreement and the actual payment
to the exporter. It is a percentage on the total sum for the
commitment period.
Securitization of Debt
? Securitisation means to convert an asset, specially a
loan into marketable security for the purpose of
raising cash or funds.
? It can also be used for financial assets like
mortgage loans, automobile loans, trade
receivables, credit card receivables etc
?Illiquid receivable is converted into securities and
hence the name debt or asset securitisation
?It may involve pooling of assets and selling them to
investors through a specialized intermediary created
for the purpose.
Features of Securitization of Debt
? Marketability
? Merchantable quality
? Wide distribution
? Homogeneity
? Commoditisation
? Integration and differentiation (pooling and
separation of assets)
? De-construction of claims to various cash flows and
rearrange them into various buckets and sell them to
different investors
Parties involved in securitization of debt
? Originator or seller: whose receivables portfolio forms the basis
for asset backed security (ABS)
? Special purpose vehicle (SPV): formed to carryout a special
activity. Can be trusts, corporations, limited partnerships, LLCs,
this helps distancing of the instrument from the originator. It
mediates between the originator and the investor.
? Investors: individuals or institutional investors who invest and
receive interest and principal as per agreed norms
? Other parties
? Obligor: originator?s debtor or borrower of the original loan
? Trustee: investors representative to safeguard their interest
? Credit rating agency
? Regulators
?Service providers
?Specialists like legal, accounts, pool auditors
Benefits of Securitization of Debt
1. Benefits to issuers / originator
? Diversification and reduced cost of funding
? Management of regulatory capital
? Generation of servicing fee income
? Management of interest rate volatility
2. Benefits to Investors
3. Benefits to borrowers
Issues in securitization of debt
? Debility (incapability) to central bank
? Heightened volatility
? Pressure on profitability
? Eroding capital base
Link for you tube video
https://www.youtube.com/watch?v=r55fXJsRwvA
Special Purpose vehicle
? SPV is created to carry-out a specific business purpose or
activity.
? SPVs are frequently used in structured finance transactions,
such as in asset securitizations, joint ventures, or to isolate
certain company asset or operations. SPVs can be created
through a variety of entities, such as trusts, corporations,
limited partnerships, and limited liability corporations.
? SPV are used by many companies for an array of financing
purposes.
? SPV which as the issuer of the ABS ensures adequate
distancing of the instrument from the originator.
? The entity that intermediates between the originator of the
receivables and the end-investors is known as ?Special
Purpose Vehicle?.
Securities issued by SPV
? Mortgage-Backed Securities (MBS), which are backed by
mortgages
? Asset-Backed Securities (ABS), which are mostly backed by
consumer debt
? Collateralized Debt Obligations (CDO), which are mostly backed
by corporate bonds or other corporate debt.
Reasons for creating SPV
? Securitization
? Risk Sharing
? Finance
? Asses Transfer
? Financial Engineering
? Regulatory Reasons
FirstRanker.com - FirstRanker's Choice
This post was last modified on 18 February 2020