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Reverse Factoring

Reverse factoring is a traditional approach for modern era’s supply chain finance. It is a financing option led by buyer in which both parties i.e. supplier & buyer receives a short-term credit against the invoice. In the reverse factoring concept, the suppliers sell their invoices to banks or institutions of finance at some pre-determined discount rate. By selling invoices supplier can get immediate access to cash whereas using this buyer can get more time to pay the invoices. Reverse factoring can be considered as a three-way financing process where supplier, buyer & financial institution, all three are involved within the transaction.

Reverse factoring helps to optimize working capital and provides liquidity to business. The key point here is that the discount rate. Discount rate at which the invoice is settled by the financial institution is lower than buyer’s own sources of operating funds. Thus, reverse factoring is cheaper short-term finance option for buyers. Reverse factoring occurs when a financial institution such as a bank decide to pay the company's invoices to the suppliers in terms of short term credit in exchange for a discount. This is a lower-cost form of financing which helps in accelerating accounts receivable receipts for suppliers.

Reverse factoring process

The buyer and its suppliers will be on board for the Reverse Factoring process or program. In most circumstances, buyer offers reverse factoring only to its most creditworthy suppliers. Following is the stepwise process of reverse factoring:

  • 1) The buyer places an order.
  • 2) Supplier fulfils the order and generates invoice for the buyer.
  • 3) The supplier’s invoice is approved by the buyer and confirmation is made regarding the payment to the financial institution at maturity of the invoice.
  • 4) The supplier then has to sell the invoice to the financial institution at a predetermined discount rate.
  • 5) After this the supplier receives the funds against the invoice immediately.
  • 6) As committed by the buyer, at the maturity of invoice, buyer will pay the invoice amount to the financial institution.

Benefits for buyers

  • check_circle_outlineThe buyer can have access to longer payment terms with the suppliers without even negotiating over any factor such as price.
  • check_circle_outlineThere is an increase in trade payables which results in the buyer experiences efficiency in day to day business operations.
  • check_circle_outlineProvides optimized working capital for the buyer.
  • check_circle_outlineThe buyers can avail benefits of cash discount even after paying for the invoice at its maturity date.
  • check_circle_outlineThis helps in raising further sources of finance at better rates.
  • check_circle_outlineThis can act as a major benefit to buyers in terms of accelerated cash flow.
  • check_circle_outlineThe company no longer has to deal with the requests from suppliers regarding early payment.

Benefits for suppliers

  • check_circle_outlineThe suppliers get faster access to cash that too at advantageous rates.
  • check_circle_outlineThis results in faster cash conversion cycle from delivery to cash.
  • check_circle_outlineThe overall balance sheet of the suppliers becomes efficient for getting future finance at better rates.
  • check_circle_outlineA cash-strapped supplier is generally paid much sooner than the normal suppliers, in exchange for the finance company's fee.

Both buyer & supplier can experience smoother processes using reverse factoring as they have to deal with financial institutions for payments. This helps to further translate in strong cooperation amongst the buyers and suppliers which creates competitive advantage.

Key points

  • Faster payments
  • Low interest rates as rates are they are based on the creditworthiness of the buyer and ordering parties
  • Better commercial relationships
  • Time saving
  • Total availability of the invoice value for factoring, contrary to discounted amounts
  • Easy to avail

Documents for analysis and decision making

  • Suppliers list
  • Previous annual financial statements(last two)
  • Articles of incorporation and association
  • Documentation which depicts full tax compliance

Reverse factoring costs

Normally, the cost of reverse factoring is borne by the suppliers. In the event that the buyer should also request the supplier for paying on maturity and a further period of deferment, the related cost may involve the application of specific market rates proportionate to the deferment period granted.

Who benefits from reverse factoring?

All three parties get benefits from reverse factoring arrangement:

  • The bank charge certain interest on reverse factoring, and avails ongoing income by providing this service
  • Retailers can develop good working relationships and can retain good and reliable supplierslp
  • Suppliers get great working capitals

Reverse Factoring and Connect2India

Connect2India provides trade credit solution that offers the benefits of reverse factoring in a more streamlined package at a lower cost. Here at Connect2India, we understand that you want to have flexibility within your sales and purchases, but you also don’t want to go through all the hurdles that may be involved in reverse factoring.

When you make sales through Connect2India, things becomes easy for both the supplier and the buyer. Our intuitive desktop and mobile interface automates and streamlines many of the processes that banks struggle through on a daily basis. We offer instant approval, and we handle every aspect of credit control to lessen the logistical burden on companies and buyers.

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