Factoring is a financial transaction where businesses sell their accounts receivable to a third party for immediate cash flow, helping them manage payments and operations without incurring debt. It can be domestic or international, with various types including full, recourse, and maturity factoring, each offering different levels of services and risk coverage. In contrast, forfaiting is a distinct transaction primarily for export financing, where the exporter sells receivables for instant cash at a discount, typically covering longer-term debts.

1. FACTORING
MEANING
HOW DOES IT WORK?
BENEFITS
FEATURES
MECHANICS
VARIOUS TYPES
FACTORING VS FORFAITING

2. MEANING
 Factoring is a financial transaction in which a
business sells its accounts receivable to a third
party at a discount. It is mainly done to meet it's
present and immediate cash needs. Forfaiting is a
factoring arrangement used in international trade
finance by exporters who wish to sell
their receivables to a forfeiter.

3. How Does Factoring Work?
 Factoring is a transaction in which a business sells its invoices, or
receivables, to a third-party financial company known as a “factor.” The
factor then collects payment on those invoices from the business’s
customers. Factoring is known in some industries as “accounts receivable
financing.”
 The main reason that companies choose to factor is that they want to
receive cash quickly on their receivables, rather than waiting the 30 to 60
days it often takes a customer to pay. Factoring allows companies to quickly
build up their cash flow, which makes it easier for them to pay employees,
handle customer orders and add more business.

4. PROCESS OF FACTORING

5. What Are Some Other Benefits of
Factoring?
Boosting cash flow is the main reason most companies factor. However,
factoring provides many other advantages as well. Here are a few of them:
 Factors provide free back-office support, including managing collections from
your customers. This gives you more time and resources to focus on growing
your company.
 Factoring is based on the quality of your customers’ credit, not your own
credit or business history.
 Factoring can be customized and managed so that it provides necessary
capital when your company needs it.
 Factoring is not a loan, so you do not incur debt when you factor.
 Factoring is scalable, meaning the amount of funding can grow as your
receivables grow.

6. Features of Factoring
Credit Cover:
The factor takes over the risk burden of the client and thereby
the client’s credit is covered through advances.
Case advances:
The factor makes cash advances to the client within 24 hours of
receiving the documents.

7. Sales ledgering:
As many documents are exchanged, all details pertaining to the transaction
automatically computerized and stored.
Collection Service:
The factor, become the clients debts collection of cheques and other follow-
procedures are done by the factor in its own interest.
Provide Valuable advice:
The factors also provide valuable advice on country-wise and customer-wise
risks. This is because the factor is in a position to know the companies of its
country better than the exporter clients

8. MECHANICS OF FACTORING
 The client sells goods to the buyer and prepares invoice with a
notation that Debt due on account of this invoice is assigned to and
must be paid to the factor (financial intermediary)
 The client submits invoice copy only with delivery challan showing
receipt of goods By buyer, to the factor
 The factor, after scrutiny of these papers allows payment (usually up
to 80% of the invoice value.) The balance is written as retention
money (margin money) this is also called factor reserve

9. TYPES OF FACTORING
DOMESTIC FACTORING
INTERNATIONAL FACTORING

10. DOMESTIC FACTORING
 Factoring can be both domestic and for exports. In domestic
Factoring, the client sells goods and services to the customer
and delivers the invoices, order, etc., to the Factor and
informs the customer of the same. In return, the Factor
makes a cash advance and forwards a statement to the client.
The Factor then sends a copy of all the statements of
accounts, remittances, receipts, etc., to the customer. On
receiving them the customer sends the payment to the Factor.

11. TYPES OF DOMESTIC FACTORING
1. Full Factoring
This is also known as "Without Recourse Factoring ". It is the most comprehensive type of
facility offering all types of services namely finance sales ledger administration, collection,
debt protection and customer information.
2. Recourse Factoring
The Factoring provides all types of facilities except debt protection. This type of service is
offered in India. As discussed earlier, under Recourse Factoring, the client's liability to
Factor is not discharged until the customer pays in full.
3. Maturity Factoring
It is also known as "Collection Factoring ". Under this arrangement, except providing
finance, all other basic characteristics of Factoring are present. The payment is effected to
the client at the end of collection period or the day of collecting accounts whichever is
earlier.

12. 4. Advance Factoring:
This could be with or without recourse. Under this arrangement, the Factor provides
advance at an agreed rate of interest to the client on uncollected and non-due receivables.
This is only a pre-payment and not an advance.
5. Invoice Discounting:
In this arrangement, the only facility provided by the Factor is finance. In this method the
client is a reputed company who would like to deal with its customers directly, including
collection, and keep this Factoring arrangement confidential.
The client collects payments from customer and hands it over to Factor. The risk involved in
invoice discounting is much higher than in any other methods.
6. Bulk Factoring:
It is a modified version of Involve discounting wherein notification of assignment of debts is
given to the customers. However, the client is subject to full recourse and he carries out his
own administration and collection.
7. Agency Factoring:
Under this arrangement, the facilities of finance and protection against bad debts are
provided by the Factor whereas the sales ledger administration and collection of debts are
carried out by the client.

13. INTERNATIONAL FACTORING
 Factoring serves as export insurance. Factors, usually
working for a factoring company, guarantee the import price
of goods to the exporter. It is the exporter who hires the
factor. The factor is totally responsible for the cash flow
from the importer to the exporter. In essence, credit is
outsourced to the factor company.

14. TYPES OF INTERNATIONAL FACTORING
1. TWO FACTOR SYSTEMS:
In this system, the transaction is based on operations of two factoring companies in
two different countries involving four parties:
i) Exporter
ii) Importer
iii) Export factor in exporter's country and
iv) Importer factor in importer's country.
The various stages of two factor system is explained below.

15. TWO FACTOR SYSTEM
[1]. Importer issues an order to purchase goods from Exporter.
[2]. Exporter (using proforma invoice) requests Export-Factor about a
limit for an acceptable cost of Importer’s order.
[3]. Export-Factor, in his turn, reconciles the said Importer’s order with
Import-Factor.
[4]. Import-Factor probes Importer’s financial/credit history.
[5]. In the case of positive outputs resulted from probing Importer’s
financial/credit history, Import-Factor approves the said deal and issues
the corresponding approval to Export-Factor.
[6]. The factoring agreement between Export-Factor and Exporter
comes into effect.
[7]. Exporter delivers the said goods to Importer and, along with other
necessary documents, issues the invoice in accordance with the
international sale contract.
[8]. Exporter transfers the deal’s documentation (international sale
contract with open account method of payment) to Export-Factor.
[9]. Export-Factor transfers the funds stipulated in the said factoring
agreement before.
[10]. Export-Factor transfers the said deal’s documentation to Importer
and Import-Factor.
[11]. By maturing (in accordance with the said invoice issued by
Exporter) Importer makes the payment in favour of Import-Factor.
[12]. Import-Factor, in his turn, transfers the funds stipulated to Export-
Factor.
[13]. Export-Factor transfers the funds stipulated to Exporter

16. 2. DIRECT EXPORT FACTORING:
Under this system only one factoring company is involved i.e., export factor,
which provides all elements of service of factoring namely finance to exporter,
maintenance of sales ledger and collection of debts from the importers, credit
protection in case of financial inability on part of any of the importers. The basic
advantage of this system is the obvious reduction in pricing structure coupled
with uniform and quick service.
3. DIRECT IMPORT FACTORING:
Under this system, the seller will choose to work directly with a factor in the
importers country. The import factor is responsible for sales ledger,
administration, collection of debts and providing bad debt protection under the
agreed level of risk coverage. The disadvantage of the system is the lack of
proximity between the exporter and the import factor, which may lead to
problems at a later stage.

17. FACTORING AND FORFAITING
 Factoring is a financial affair which involves the sale of firm’s
receivables to another firm or party known as a factor at
discounted prices.
 On the other hand, forfaiting simply means relinquishing the
right. In this, the exporter renounces his/her right due at a future
date, in exchange for instant cash payment, at an agreed
discount, to the forfeiter.

18. Difference Between Factoring and Forfaiting
 Factoring refers to a financial arrangement whereby the business sells
its trade receivables to the factor (bank) and receives the cash
payment. Forfaiting is a form of export financing in which the exporter
sells the claim of trade receivables to the forfeiter and gets an
immediate cash payment.
 Factoring deals in the receivable that falls due within 90 days. On the
other hand, Forfaiting deals in the accounts receivables whose maturity
ranges from medium to long term.
 Factoring involves the sale of receivables on ordinary goods.
Conversely, the sale of receivables on capital goods are made in
forfaiting.

19.  Factoring provides 80-90% finance while forfaiting provides
100% financing of the value of export.
 Factoring can be recourse or non-recourse. On the other hand,
forfaiting is always non-recourse.
 Factoring cost is incurred by the seller or client. Forfaiting cost is
incurred by the overseas buyer.
 Forfaiting involves dealing with negotiable instruments like bills
of exchange and promissory note which is not in the case of
Factoring.
 In factoring, there is no secondary market, whereas in the
forfaiting secondary market exists, which increases the liquidity
in forfaiting.

20. PRESENTED BY~
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Presented at Loyola College, Chennai.