1. FACTORING AND FORFAITING

2. Factoring is of recent origin in Indian Context. Kalyana Sundaram Committee recommended introduction of factoring in 1989. Banking Regulation Act, 1949, was amended in 1991 for Banks setting up factoring services. SBI/Canara Bank have set up their Factoring Subsidiaries:-  SBI Factors Ltd., (April, 1991)  CanBank Factors Ltd., (August, 1991). RBI has permitted Banks to undertake factoring services through subsidiaries.

3. WHAT IS FACTORING ? Factoring is the Sale of Book Debts by a firm (Client) to a financial institution(Factor) on the understanding that the Factor will pay for the Book Debts as and when they are collected or on a guaranteed payment date. Normally, theFactor makes a part payment (usually upto 80%) immediately after the debts are purchased thereby providing immediate liquidity to the Client.

4. Process…. PROCESS OF FACTORING CLIENT CUSTOMER FACTOR

5. So, a Factor is, a)A Financial Intermediary b)That buys invoices of a manufacturer or a trader, at a discount, and c)Takes responsibility for collection of payments. The parties involved in the factoring transaction are:- a)Supplier or Seller (Client) b)Buyer or Debtor (Customer) c)Financial Intermediary (Factor )

6. Nature of factoring It is a mode of financing as well as financial service It is a contractual service It is a continuous arrangement It enables conversion of outstanding receivables into cash flows Factor makes advance payment against invoice(from 80 to 90%)

7. It may or may not assume credit risk Provides other services also like credit collection,sales ledger maintainence,etc

8. Functions of factoring Finance Debt administration Credit risk protection Advisory services

9. MECHANICS OF FACTORING  The Client (Seller) sells goods to the buyer and prepares invoice with a notation that debt due on account of this invoice is assigned to and must be paid to the Factor (Financial Intermediary).  The Client (Seller) 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 upto 80% of invoice value). The balance is retained as Retention Money (Margin Money). This is also called Factor Reserve.  The drawing limit is adjusted on a continuous basis after taking into account the collection of Factored Debts.  Once the invoice is honoured by the buyer on due date, the Retention Money credited to the Client’s Account.  Till the payment of bills, the Factor follows up the payment and sends regular statements to the Client.

10. TYPES OF FACTORING  Recourse Factoring  Non-recourse Factoring  Maturity Factoring  Cross-border Factoring  Export factoring

11. Cost of factoring finance charge Service fee

12. advantages To client: Credit sales are immediately converted into cash Client can offer competitive credit terms Cash realized can be used for further production No tention of monitoring sales ledger Can explore new mkt

13. To customer: They get adequate credit period Not to furnish any documents To banks Improves liquidity Improve quality of advances

14. WHY FACTORING HAS NOT BECOME POPULAR IN INDIA Banks’ reluctance to provide factoring services Bank’s resistance to issue Letter of Disclaimer (Letter of Disclaimer is mandatory as per RBI Guidelines). Problems in recovery. Factoring requires assignment of debt which attracts Stamp Duty. Cost of transaction becomes high.

15. FORFAITING “ Forfait” is derived from French word ‘A Forfait’ which means surrender of rights. Forefaiting is a mechanism by which the right for export receivables of an exporter (Client) is purchased by a Financial Intermediary (Forfaiter) without recourse to him. It is different from International Factoring in as much as it deals with receivables relating to deferred payment exports, while Factoring deals with short term receivables.

16. FORFAITING (contd…) Exporter under Forfaiting surrenders his right for claiming payment for services rendered or goods supplied to Importer in favour of Forefaiter. Bank (Forefaiter) assumes default risk possessed by the Importer. Credit Sale gets converted as Cash Sale. Forfaiting is arrangement without recourse to the Exporter (seller) Operated on fixed rate basis (discount) Finance available upto 100% of value (unlike in Factoring) Introduced in the country in 1992.

17. MECHANICS OF FORFAITING EXPORTER IMPORTER FORFAITER AVALLING BANK HELD TILL MATURITY SELL TO GROUPS OF INVESTORS TRADE IN SECONDARY MARKET

18. CHARACTERISTICS OF FORFAITING Converts Deferred Payment Exports into cash transactions, providing liquidity and cash flow to Exporter. Absolves Exporter from Cross-border political or conversion risk associated with Export Receivables. Finance available upto 100% (as against 75-80% under conventional credit) without recourse. Acts as additional source of funding and hence does not have impact on Exporter’s borrowing limits. It does not reflect as debt in Exporter’s Balance Sheet. Provides Fixed Rate Finance and hence risk of interest rate fluctuation does not arise.

19. COSTS INVOLVED IN FORFAITING Commitment Fee:- Payable to Forfaiter by Exporter in consideration of forefaiting services. Commission:- Ranges from 0.5% to 1.5% per annum. Discount Fee:- Discount rate based on LIBOR for the period concerned. Documentation Fee:- where elaborate legal formalities are involved. Service Charges:- payable to Exim Bank.

20. Advantages It is simple and flexible Non recourse basis Simple documentation No hassel of collection Fixed interest rate and no currency risk

21. FACTORING vs. FORFAITING POINTS OF DIFFERENCE FACTORINGFORFAITING Extent of FinanceUsually 75 – 80% of the value of the invoice 100% of Invoice value Credit Worthiness Factor does the credit rating in case of non- recourse factoring transaction The Forfaiting Bank relies on the creditability of the Avalling Bank. Services providedDay-to-day administration of sales and other allied services No services are provided RecourseWith or without recourseAlways without recourse Term of maturityIt is for short term maturities transactions It is for long term maturities transaction

22. Case Study #1... James Manufacturing, Inc. James Manufacturing is a small builder James Manufacturing is a small builder of boat trailers and related products. of boat trailers and related products. Bill James, its owner, was awarded a Bill James, its owner, was awarded a contract to supply the Florida Fish contract to supply the Florida Fish and Wildlife Conservation Commission and Wildlife Conservation Commission with 72 new trailers to replace old with 72 new trailers to replace old units that were rusty and failing. units that were rusty and failing. Each trailer was $2,900 for a total value of Each trailer was $2,900 for a total value of $208,800. $208,800. James had 20 trailers in inventory to begin delivery and the contract called for all trailers to be delivered within 60 days.

23. Problems Faced By James:- It had little excess capital. The state pays slowly and Bill James knew he would not receive payment for the 20 trailer. He needed cash to order bulk steel and hardware to build the remaining 52 trailers and to be able to deliver them by the 60 day purchase order deadlineSolution:- He visited a local community bank where the loan officer explained him the need of factoring. James was introduced to bank’s factoring officer. An account was immediately established to provide working capital to meet the order..

24. Result Through factoring, James would receive an initial advance from the bank of $46,400 (80%) on the $58,000 invoice after delivery of the 20 finished trailers in inventory. That advance of $46,500 was enough to then buy the bulk steel and hardware to complete the other 52 trailers in time. After the state paid for the 20 trailer shipment, the bank would then give James the $11,500 not initially advanced less a small factoring fee for services.

25. Bill of Exchange A bill of exchange is playing an important part in the commercial life of the country. The need for it arises where the buyer of goods needs a period of credit before paying it. It is drawn by the creditors and is accepted by debtor.

26. What is Bill of Exchange? According to Muller, A bill of exchange is an unconditional order in writing addressed by one person to another, signed by the person giving it, requiring the person to whom it is addressed to pay on demand or at a fixed or determinable future time, a sum certain in money to or to the order of a certain person or to bearer.

27. Features or Characteristics of the bill The main characteristics or features of a bill of exchange are as follow: A Bill of Exchange must be in writing. It must contain in order to pay. The order to pay must be unconditional. If it is subject to the happening of some events, it will not be a bill of exchange. It must be signed by the drawer and properly stamped.

28. Features or Characteristics of the bill The parties to the bill, the drawer, the drawee, and payee must be certain and definite individuals. The amount payable must be certain. The payment must be made in money. The bill payable may be either on demand or after a specified period. The bill may be payable either to the bearer or to the order of payee.

29. Parties to the Bill of Exchange According to the definition there are three parties involved to a bill of exchange. – Drawer – Drawee – Payee

30. Parties to the Bill of Exchange (i) Drawer: The drawer is the person who draws the bill. He is the person who orders to pay a certain sum of money (In the specimen of the bill Hamid is drawer of the bill) (ii) Drawee: He is the person on whom the bill is drawn. He is the person who is ordered to make payment of the bill (In the specimen of bill Rashid Ahmad is the drawee of bill).

31. Parties to the Bill of Exchange (iii) Payee: He is the person to whom money is directed to be paid. He gets the payments of the bill. (In the specimen of bill Kamal Akmal is the Payee of bill).

32. Specimen of a Bill of Exchange $8,000 Kabul May 17, 2008 Stamp Two months after date pay to Mr Kamal or his order the sum of Dollar 8,000 only, for value received. To Rashid Ahmad Jalal Abad Hamid Zafar Afghanistan Signature

33. Types of bill Demand bill Usance bill Documentary bill Claen bill Inland bill Foreign bill Supply bill

34. Working of discounting of bill Examination of bill Crediting customer account Control over accounts Sending bills for collection Action by the branch dishonour

35. Advantages of bill Certainty of payment Safety of funds Employment of funds for a definite period Refinance facility no fluctuation in price

36. limitations Lack of uniformity in documents to be submitted Wide geographical spread of buyers Delay on part of drawers bank in sending bill Delay on part of drawee in accepting a bill Delay in approval of new customers in absence of reliable information

37. FACTORING vs BILLS DISCOUNTING BILL DISCOUNTING 1.Bill is separately examined and discounted. 2.Financial Institution does not have responsibility of Sales Ledger Administration and collection of Debts. 3.Drawee or acceptor of bill has full knowledge of arrangement FACTORING 1.Pre-payment made against all unpaid and not due invoices purchased by Factor. 2.Factor has responsibility of Sales Ledger Administration and collection of Debts. 3.The debtors are not aware about arrangements

38. FACTORING vs BILLS DISCOUNTING (contd…) BILLS DISCOUNTING 4.Bills discounting is usually done with recourse. 5.Financial Institution can get the bills re-discounted before they mature for payment. FACTORING 4.Factoring can be done without or without recourse to client. In India, it is done with recourse. 5.Factor cannot re-discount the receivable purchased under advanced factoring arrangement.

39. Rediscounting of bill Re discounting occurs when bank in need of funds takes some paper that it has discounted for customers to some other bank and discount it i.e. re discounts it

40.  Plastic money or polymer money, made out of plastic, is a new and easier way of paying for goods and services. Plastic money was introduced in the 1950s and is now an essential form of ready money which reduces the risk of handling a huge amount of cash. It includes Debit cards, ATM, Smart cards, etc. Plastic Money

41. Types Of Cards  Debit Card  Credit Card  Charge Card  Amex Card  Smart Card  Photo Card  Maser Card worldwide  Diner Club Card  Global Card  Co Branded card

42. Advantages  Offer free use of funds, provided you always pay your balance in full, on time.  Be more convenient to carry than cash.  Help you establish a good credit history.  Provide a convenient payment method for purchases made on the Internet and over the telephone.  Give you incentives, such as reward points, that you can redeem

43. Disadvantages  Cost much more than other forms of credit, such as a line of credit or a personal loan, if you don't pay on time.  Damage your credit rating if your payments are late.  Allow you to build up more debt than you can handle.  Have pretty complicated terms and conditions