Regulation of Bank Finance^393
Factoring
Backdrop
With growing industrialisation and consequential growth in the volume of industrial
production and sales, timely collection and efficient management of receivables has
assumed importance. In the buyerís market of today, it seems to go without observing
that one should demand credit on oneís purchases and give credit on sales. The system
feeding on itself is self-perpetuating. Since sales always exceed purchases during a
given period, a larger amount of credit is given than taken and if collections are delayed,
liquidity of the firm is badly affected. The problem becomes more serious for smaller
enterprises due to their relatively weak financial position and limited access to capital
market.
To handle this problem and prompted debt collections, companies in the USA, UK and
most European countries have resorted to factoring services in one form or the other as
an alternative method of converting accounts receivable into cash. These services
have recently been extended in some South American countries as well as countries in
the south Eastern and Far Eastern parts of Asia. Factoring in these countries covers
both domestic and international trade. The USA and European Countries account for
nearly 90 per cent of global factoring turnover at present Is India need for introducing
factoring is being keenly felt.
Concept of Factoring
Factoring is a method by which a businessman can obtain cash for invoices he sends to
his customers in respect of supply of goods and services to them. Factoring is also
termed as ëInvoice Discounting.í Factoring involves the sale of receivables to a financial
institution such as an old line factoróa commercial financial company or one of a few
commercial banks. The factor purchases accounts acceptable to him generally without
recourse; if the customer does not pay, the factor takes the loss. The client no longer
carries factored account receivable on his balance sheet, in effect having converted
them into cash. Firms owing the accounts receivable to client firms are notified that the
account has been sold to the factor and are asked to remit directly to the factor.
It is noteworthy that the factor seldom agrees to buy all of the accounts receivable of a
client firm; instead, he retains the right to screen the accounts and selects those
acceptable to him. The client firm can continue to sell to customers whose accounts
are unacceptable to the factor, but it must carry them itself and assume all risks on
them.
Factoring involves rendering of services varying from the bill discounting facilities offered
by commercial banks to a total takeover of administration of the sales ledger and credit
control functions, from credit approval to collecting cash, credit insurance and provision
of finance. Factoring agreement is normally continuous. As new receivables arise, they