Factoring is an arrangement between the bank / financial institution (who is called the Factor) and a company, wherein the Factor buys the book debts of a company and pays cash to the company against their receivables. The Factor then collects the amounts from the debtors of the company.
There is a factoring arrangement, wherein the client makes a sale, delivers the product or service and raises an invoice. The factor buys the right to collect on that invoice by agreeing to pay the client the invoice’s face value at a discount. The factor normally pays about 75 percent to 80 percent of the face value immediately and pays the balance when they receive the amount from the Debtor.
Because a Factor extends credit not to their own clients but to their clients’ Debtors, they are more concerned about the Debtors’ ability to pay on due date, rather than the client’s financial status. There are 2 types of Factoring – “With Recourse Factoring” & “Without Recourse Factoring”. Factoring, particularly “without recourse” is not a loan and hence it does not create any liability on the company’s balance sheet. It is the sale of an asset by the company whereby they convert it into Cash.
We will keep discussing more about this product in our subsequent posts. Keep reading..