10. General Financing with Receivables

What are the two ways transfer of receivables to a third party for cash can happen?

1. Sales of receivables

2. Secured borrowing

What are the two types of sales of receivables?

1. Securitization

2. Factoring

What is securitization?

• A company first creates a special purpose entity which is usually a trust or subsidiary.

• Next, the special purpose entity buys a pool of trade receivables, credit card receivables, or loans from the company.  Then it usually sells debt such as bonds or commercial paper that are backed by these receivables.

What is factoring?

This is when a company sells its receivables to other companies (usually a financial institution). This often happens when the company needs the cash sooner or if they think the probability of collecting the cash is low.

What is a factor?

Factors are financial institutions (finance companies or banks) that buy receivables for cash and handle the billing and collection of the receivables.  In turn, they charge a fee for this service. 

What is sale without recourse (factoring)?

The seller of the receivable assumes no responsibility for any credit losses associated with the transferred receivables. Basically, the buyer can't ask the seller for more money if the receivables prove to be uncollectible. The buyer assumes the risk of bad debt.

What is sale with recourse (factoring)?

The seller (company selling the receivable) guarantees payment to the purchaser in the event the debtor fails to pay.

What is secured borrowing?

Some companies use receivables as collateral in a borrowing transaction. Creditors, such as banks, often requires that the debtor or pledge receivables as security for the loan. 

If the loan is not paid when due, the creditor can then collect the receivables.

What is pledging?

Pledging is when a company transfers the receivables for custodial purposes.