The Hindu Business Line : Factoring services yet to gain popularity

Chennai, Oct.14 Mr Chinnaswami Perumal owns a small factory in Coimbatore, which makes leather bags. He exports or sells his bags to retailers in Chennai, Mumbai and Bangalore. His clients usually pay him after 30-90 days. Mr Perumal has no complaints because the delay will not upset his production. Mr Perumal gets the money from a factoring services company (factor) after selling the invoice (receivable).

Like Mr Perumal, factoring is of great help to small exporters, manufacturers and service providers. Factoring also involves checking the creditworthiness of buyers, assuming credit risk, protection against write-offs, collection and management of receivables and immediate cash advances against receivables.

As one SME official puts it, factoring offers freedom from bad debt and provides cash to finance future growth. But this form of financing is yet to become popular with business and industry in India after its introduction more than 15 years ago.

According to Factors Chain International, a global umbrella organisation of factoring companies, India with just eight companies clocked a total turnover of Rs 19,860.5 crore in 2006 way below Japan’s Rs 4,15,789.1 crore Taiwan’s Rs 2,23,152. 6 crore and China’s Rs 7,97,77.1 crore in Asia. The Indian factoring market has grown by 176 per cent from Rs 7,196.7 crore to Rs 19,860.5 crore between 2002 and 2006. Global leaders are the UK, France and Italy.

Mr Arvind Sonmale, MD & CEO, Global Trade Finance Ltd, said: “India accounts for 0.3 per cent of the world turnover. Even among Asian countries, India’s share works out to an insignificant 2.37 per cent. It is estimated further that the factoring market would grow to reach a volume of Rs 45,944 crore by end-2007. Given the vast size of the Indian SME sector, factoring, which is getting qualitatively revamped from time to time by newly updated product lines, is expected to grow in the long run.”

According to HSBC, India has climbed to the third position in the group’s total factoring business below the UK and Hong Kong.

Roadblocks

A World Bank study says weak contract enforcement institutions and tax, legal, and regulatory impediments will hamper factoring services. “Factoring generally requires good historical credit information on all buyers; if unavailable, the factor takes on a large credit risk.” It also points out that fraud represents another big problem in this industry (e.g. bogus receivables and non-existent customers).

Mr Laxman N. Sankade, Managing Director, Canbank Factors Ltd, said: “For factoring to develop, it is imperative that an enabling legal environment be created and the Factoring Bill be passed in Parliament. It is also seen that a lot of weak companies would actually be able to tide over their liquidity problems if the receivables are acceptable to the factoring companies and which could be factored.”

According to Mr Basab Majumdar, Head- Factoring and Receivables Finance, India, HSBC, “Assignment of debt is still a cumbersome process and involves stamp duty which again is a State level subject and there is no uniformity in the rates of stamp duty across States. Moreover, every time a debt has to be assigned to the factor and stamp duty paid on the transaction, which has the potential of making the proposition expensive for the client. Most of the developed countries have implemented clear laws related to assignment/transfer of debt, bankruptcy, debt recovery, etc. Additionally in India, access to information on companies, their repayment performance with the banking system, etc is thinly available, which results in lack of information to decide on credit.”

According to Mr Sankade, factoring in its true sense is factoring without recourse to the client. This may not be possible in India unless credit insurance is introduced in the country. In most of the Western countries, factoring is done without recourse, as they have the facility of credit insurance from insurance companies.”

Some of the factoring companies are also not happy with their status as non-banking finance company (NBFC). Mr Sonmale said: “We can’t initiate summary proceedings. There is no protection under either Debt Recovery Tribunal (DRT) or the Securitisation Act.” Mr Sankade said they have been pitching for a good sub-classification under the NBFC as a factoring company which would be better to attract business. He said banks should see factoring as a product that is complementary and improves the risk profile of the receivables.

Advantages

Factoring has many advantages. “Banks normally analyse a customer’s last audited financial statements to assess the working capital finance requirements for cash credit. A factor provides funding based on the current and projected sales volume and is, therefore, more in line with the needs of the business. Secondly, cash credit facility requires you to provide collateral security. This is not required under factoring. Thirdly, factoring offers funding up to 90 per cent of invoice value whereas a bank provides between 60 and 75 per cent funding,” said Mr Majumdar.

Factoring also offers some advantages over bill discounting as the latter is based on a customer’s last audited financial statements. Again bill discounting is accessible when the buyers accept bills. “Factoring on the other hand allows you to access instant cash against sales on delivery of goods. You just have to submit invoices with supporting documents and the funds are credited the next day.”

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