What is factoring? Discuss its pros and cons.
Answers
It is the oldest form of financial service relating to management and financing of debts offered by financial institutions. Here a company sells its accounts receivables at a discount to a factor, which then assumes the credit risk of the debtors and receives cash as the debtors settle their accounts.
pros of Factoring:
Factoring has several advantages, some of which are:
The company receives advance payment from the factor which improves its immediate cash inflows. Factoring does not require to chase the debtors for collecting outstanding amount and consequently the management may concentrate on other important issues.
cons of Factoring:
Factoring is also associated with some disadvantages such as:
i. It is very costly, as a huge discount is to be paid to the factor.
ii. Factors may adopt some harsh techniques for the recovery of debt which is not always acceptable to the debtors and ultimately the relationship between company and debtors deteriorates.
iii. Factors only purchase the invoices of a reputed company; a new company does not get the benefit of factoring.