Difference Between
FACTORING & BILLS DISCOUNTING
Presentation By Group-16
GROUP MEMBERS:-
55-TARUN KR. KEMRO 56-TUSHAR YADAV 57-UJJAWAL RAJ
INTRODUCTION
Management of Cash & Receivables is of utmost importance to both Corporate Giants &
Small Firms. Many businesses have collapsed for want of Liquidity.
The key to success lies in converting Credit Sales into Cash within a Short period of time.
There are many traditional methods such as Cash Credit, Bills Discounting & Consumer
Credit through Financial Intermediaries that help in raising short-term funds against
Credit Sales or Receivables.
INTRODUCTION Continued….
Recently, new financial services, such as FACTORING, have come into existence to
assist the financing of Credit Sales and, thereby, help the business unit to tide over the
Liquidity Crunch.
Introduction of Factoring services has, proved very beneficial for businesses as it has
freed the units from hassles of collecting receivables and enabled them to concentrate
on product development and marketing.
The main function of Factor is realisation of sales. Once the transaction takes place,
the role of factor step in to realise the sales/collect receivables.
FACTORING
Factoring may be defined as a continuous relationship between financial
institution (the factor) and a business concern selling goods and/or providing
service (the client) to a trade customer on an open account basis, whereby the
factor purchases the client's book debts (account receivables) with or without
recourse to the client - thereby controlling the credit extended to the customer
and also undertaking to administer the sales ledgers relevant to the transaction.
In simple words, Factoring is a receivables management & financing service
designed to accelerate the seller’s Cash Flow by turning his credit sales invoices into
ready cash.
The study group appointed by the International Institute for the Unification of Private
Law (UNIDROIT), Rome, during 1988, recommended, in simple words, the definition of
factoring as under:
“Factoring means an arrangement between a factor and his client which includes at least two of
the following services to be provided by the factor:
• Finance
• Maintenance of Accounts (debts)
• Collection of debts
• Protection against credit risk”.
However, the above definition applies only to factoring in relation to supply of goods
and services:
across national boundaries;
to trade or professional debtors; &
when notice of assignment has been given to the debtors.
SCOPE OF FACTORING
Domestic factoring is not yet a well-defined concept and it has been left to the discretion
of legal framework as well as trade usage and convention of the individual country.
Besides purchase of accounts receivables, a factor may provide a wide range of services,
such as the following:
Credit Management & Covering the Credit Risk Involved
Provision of Prepayment of Funds against the debts it agreed to buy
Arrangement for Collection of Debts
Administration of the Sales Ledger
Mechanism of Factoring
In a factoring transaction, there are three parties – the Factor, the Client
and the Customers of the client.
The Client is the person who is actually availing the factoring service.
The Factor provides the factoring services and
The Customers are the persons who purchases the goods and services on
credit.
The following steps are involved in the process of factoring:
1. Customer places an order with the client for purchase of goods and/or services on
credit.
2. On the basis of agreement, the client delivers the goods and sends the invoice to
customers.
3. The client then assigns the invoice to the factor. This is generally called, “Sale of book
debts by the client firm to the factor”.
4. The factor, then, makes prepayment up to 80 per cent of the invoice value to the
client.
Steps in the Process of Factoring Continued….
5. The client pays interest on advances of amount received until the cash is collected
from customer.
6. The factor maintains accounts receivable of the client and sends periodical (monthly)
statements to the customer to accelerate the collection. The Factor also sends a
monthly statement of accounts to the Client to keep him informed of the factored
invoices.
7. On the due date, the factor collects the invoice amount from the customer.
8. After that, the factor releases the remaining amount to the client after adjusting his
commission/fees.
Diagram showing Process of Factoring
Example Of Factoring-
Suppose Customer/Client has raised an order with an invoice value of ₹5,00,000; basis
that order business delivered the product on credit basis. After this, the business sells
the invoice to factoring company to get at least 80 per cent realized value i.e. ₹4,00,000.
This realized value can be used for further business expansion or any product
development.
The business pays an interest i.e. 5% on the advance of ₹4,00,000 until amount realized
from client. Then factoring company collects the invoice amount from customer i.e
₹5,00,000. After this factoring company releases the reserve amount i.e. ₹1,00,000 less
5% interest charged.
The
Continuous
cycle of
Factoring
Factoring Charges
Finance charge is computed on the prepayment outstanding in the client’s
Finance account at monthly intervals.
• Finance charges are only for financing that has been availed.
Charge • These charges are similar to the interest levied on the cash credit facilities in a
bank.
Service charge is a nominal charge levied at monthly intervals to cover the cost
Service of services, namely, collection, sales ledger management, and periodical MIS
Reports.
Fee • Service fee is determined on the basis of criteria such as the gross sales value,
the number of customers, the number of invoices and credit notes, and the
degree of credit risk represented by the customers or the transaction.
Both these charges taken together compare very favourably with the interest rates charged by banks and financial institutions or short-term borrowings.
FUNCTIONS OF A FACTOR
Maintenance/ Administration of sales ledger
Collection Facility
Financing Trade Debts
Credit Control and Credit Protection
Advisory Services
REGULATORY ASPECTS OF
FACTORING
Factoring Regulation Act, 2011
Non-Banking Financial Company -
Factors (Reserve Bank) Directions,
2012.
Country Profile INDIA
FACTORING 2019
Number of Factoring Companies: 10
IN INDIA Domestic Factoring Turnover: 4,500
International Factoring Turnover: 589
Total Factoring Turnover: 5089
At the instance of RBI, a Committee
Source:www.fci.nl -Figures in Million Euros
headed by Shri C. S. Kalyan Sundaram
went into the aspects of factoring
services in India in 1988, which formed
the basis for introduction of factoring
services in India. FCI Members
• ECGC Limited
SBI in association with the State Bank of • ICICI Bank Ltd.
Indore, the State Bank of Saurashtra, • IFCI Factors Ltd. (Foremost Factors Limited)
the SIDBI, & the Union Bank of India set • SBI Global Factors Limited
up the SBI Factors & Commercial
• Standard Chartered Bank
Services Limited in February 1991.
• Hongkong & Shanghai Banking Corporation Ltd.
It was the 1st Factoring Company to be • Oracle Financial Services Software Ltd.
set up in India. • DBS Bank India Ltd.
• India Factoring & Finance Solutions Pvt. Ltd.
Presently having about 45% market
• YES Bank Ltd.
share in this business.
Growth of Factoring in india
6000
5240
5089
5000
4532
4340 4269
4000 3881
3700
3000
2000
1000
0
2013 2014 2015 2016 2017 2018 2019
Total Factoring Volume in the Last 7 Years (in Million of Euros)
Established in 1968, Factor Chain International
(FCI) is a global network of leading factoring
companies whose common aim is to facilitate
international trade through factoring & related
financial services.
Factor The FCI network consists of close to 400 Member
companies (392 at year end 2019) in more than 90
Chain
Countries.
It has developed standard procedures of Factoring
International to maintain a universal quality.
Bills Discounting
Bill Discounting is a trade-related activity in which a company's unpaid invoices which
are due to be paid at a future date are sold to a financier (a bank or another financial
institution). This process is also called “Invoice Discounting”.
While discounting a bill, the Bank buys the bill (i.e. bill of exchange or promissory note)
before it is due and credits the value of the bill after a discount charge to the
customer's account.
The transaction is practically an advance against the security of the bill and the
discount represents the interest on the advance from the date of purchase of the bill
until it is due for payment.
Bills discounting Continued….
According to the Indian Negotiable Instruments Act, 1881: “The bill of exchange is
an instrument in writing containing an unconditional order, signed by the maker,
directing a certain person to pay a certain sum of money only to, or to the order of, a
certain person, or to the bearer of that instrument.”
The Bill of Exchange (B/E) is used for financing a transaction in goods which means
that it is essentially a trade-related instrument.
Both bill discounting and factoring are short-term sources of finance but it differ in
many respects from factoring.
Process of Bill Discounting
Factoring v/s Bills Discounting
Factoring Bills Discounting
Factoring is a financial service provided by a Bill Discounting is an individual transaction
financial institution/intermediary on a whole oriented in the sense that each bill is separately
turnover basis. Factoring is the provision of assessed and discounted.
bulk finance against several unpaid trade
invoices.
In Factoring a one-time notification is taken In case of Bill Discounting, each bill has to be
from the customer at the commencement of individually accepted by the Drawee, which takes
the facility. time.
Factoring v/s Bills Discounting Continued….
Factoring Bills Discounting
In case of Factoring, the grace period is While in case of Bill Discounting, the grace period
generally higher. for payment is usually 3 days.
Only copies of documents such as Bill of Bill Discounting requires submission of original
Lading, Challans, and Invoices are required in documents such as Bill of Lading, Challans, and
Factoring. invoices.
There are no upfront charges in case of Whereas in Bill Discounting, charges are normally
Factoring. upfront.
Factoring v/s Bills Discounting Continued….
Factoring Bills Discounting
In case of Factoring, no stamp duty is charged Bill Discounting is an expensive short-term source
on the invoices and hence it is less expensive of finance as stamp duty is charged on certain
than bill discounting. usance bills together with bank charges.
Factoring involves assignment of debts. While Bill Discounting involves hypothecation of
debts.
Usance Bills are the bills payable by the drawee at a specified period ‘after date’ or ‘after sight’ of the bill. These are also called as Time Bills. The term ‘Usance’
denotes the period of time between the date of the bill and the payment of the bill.
Assignment of Debts refer to a transfer of debt, and all the associated rights & obligations, from a creditor to a third party. The assignment is a legal transfer to
the other party, who then becomes the owner of the debt.
Hypothecation occurs when an asset is pledged as collateral to secure a loan. The owner of the asset doesn’t give up title, possession, or ownership rights.
However, the lender can seize the asset if the terms of the agreement are not made.
Factoring v/s Bills Discounting Continued….
Factoring Bills Discounting
Factor undertakes to collect the bills of the The Drawer undertakes the responsibility of
client except in the case of Recourse Factoring. collecting the bills and remitting the proceeds to
financing agency.
Factoring may be with or without recourse. Bill discounting is always with recourse, i.e. in
case of default the client will have to make good
the loss.
Debts purchased for factoring cannot be Bills discounted may be rediscounted several
rediscounted, they can only be refinanced. times before the maturity.
Recourse- In the event of Buyer failing to pay on maturity, the seller has to pay back the advance obtained from the Factor or the Bank
as the case may be.
Non-Recourse (Without Recourse)- Factor or Bank provides finance & bears the risk of default in case of non-payment by the buyers.
Factoring v/s Bills Discounting Continued….
Factoring Bills Discounting
Factoring may be domestic or international and Bill Discounting is more domestic-related and
is not concerned with the working capital limits usually falls within the working limits set by the
set by the bank. bank for the customer.
Factoring involves less paperwork Bill Discounting involves more paper work as
comparatively. compared to Factoring.
Factoring is an ‘Off-Balance-Sheet’ mode of While Bill Discounting is always ‘In-Balance
financing. Sheet’ mode of financing.
Note- In case of Bills Discounting both the amounts of receivables and bank credit are reflected in the balance sheet of the clients as
current assets and current liabilities respectively. This is because of the 'with recourse' nature of the facility.
While in case of Full Factoring services client completes his double entry accounting by crediting the factor for consideration value.
Factoring v/s Bills Discounting Continued….
Factoring Bills Discounting
Factoring renders a gamut of services like Whereas Bill Discounting is a mere provision of
maintenance of sales ledger, advisory services, finance against bills.
etc. in addition to the provision of finance
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