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Banking Expert Witness Advice on Lending Industry Standards Helpful in Factoring Litigation


     By Don Coker Banking Consultant & Banking Industry Standard Procedures, et al., Expert Witness

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Expert Witness: Don Coker
Factoring is a financing method that companies use in order to raise working capital by selling the company’s accounts receivable to a financial institution or other factoring source.
Selling a company’s accounts receivable generally puts money in the hands of the company sooner than the company would receive the funds if it simply collected on its accounts receivable. For the advantage of receiving its funds sooner, the company sells its accounts receivable to the factor at a discount, which provides a profit to the factor that is providing the working capital funds to the company selling its accounts receivable.

How Factoring Works

The party providing the funds is called the “factor” which is generally a financial institution such as a bank, credit company, asset-based lender, or hard money lender that purchases a company’s accounts receivable, typically at a discount. Then the entities paying on the accounts receivable make their payments to the factor, and the factor makes its profit by receiving full payment of the face amount of the receivables even though it purchased the receivables at a discount. The difference represents the factor’s profit.

Two Types of Factoring

There are two basic types of factoring, the difference being when the company is paid by the factor:

● Maturity Factoring – The company receives payment on the average maturity date of the portfolio of purchased accounts receivable.

● Advance Factoring – A maturity date is calculated in the same manner as for Maturity Factoring, but the company has the option of receiving some agreed percentage of the balance before the calculated maturity date, and receiving the rest of the amount due on the calculated maturity date.

Sometimes, a factor will agree to fund an “overadvance” which is to be secured by accounts receivable on future sales. The security comes later when sales occur and the company can provide an actual account, or accounts, receivable. A factor may require other collateral such as cash, real estate, plant and equipment, inventory, or marketable securities to secure an overadvance. Overadvances are not real common since initially, a part of the factor’s funding is essentially unsecured unless secured by other available collateral.

Recourse vs. Nonrecourse

When a factor purchases a company’s accounts receivable, it is typically on a nonrecourse basis, meaning that the factor performs its own credit risk analysis on each account receivable before it purchases it, and the factor assumes the risk of nonpayment by the entity paying on each account receivable. The factor and the seller are free to structure some recourse on the part of the seller of the accounts receivable so that the company selling the accounts receivable provides some backstop against losses due to nonpayment of the accounts receivable. Alternatively, the seller might be required to maintain a reserve fund with the factor that could be used to cover all or part of any credit losses sustained by the factor. The documents of the factoring transaction should cover the recourse or nonrecourse details of the parties’ agreement.

Notification vs. Non-Notification

This has to do with whether or not the parties paying on the accounts receivable are notified that their account has been sold to the factor. In most cases, factoring transactions are on a non-notification basis which means that the parties paying on the accounts receivable make their payments to the company from whom they are purchasing the goods or services; and then the company passes along the payments to the factor. This enables the company that is selling the goods or services to maintain a contact relationship with its customers.

Other Details of Factoring Transactions

The terms of a factoring transaction are set out in a Factoring Agreement.

Each customer of a factor typically has a specified credit line based upon the factor’s analysis of the customer’s credit profile.

Factors should have written policies and procedures that conform to nationwide industry standard policies, practices and procedures for the factoring and banking industries.

Each month, a Factor sends each customer an “Accounts Current” statement that reflects the details of all of the factoring activity for the previous month.

Factoring is a fast-moving process since transactions may occur many times in a day, so systems must be adequate to handle the expected flow of business.

Discovery Issues

If litigation is necessary in order to resolve a factoring matter, then the following items might be requested in discovery:

● The Factoring Agreement.

● The Factor’s file for the matter including the committee approval document.

● The Factor’s policy and procedure manuals.

● The monthly “accounts current” statements sent by the Factor to the company.

● The company’s records of accounts sent to the Factor.

● Other documents that might pertain to the particular circumstances of the subject factoring matter.

Conclusion

Factoring is one of the more unusual and lesser understood financing methods out there, so expect that there will be a dearth of information available to help you when trying to work through a factoring problem.

Be aware that there are several ways to structure factoring relationships.

ABOUT THE AUTHOR: Don Coker -
Don Coker is a Banking, Financial, Lending, Real Estate, Embezzlement, Business Valuation, and Anti-Money Laundering Expert Witness, serving clients nationwide and worldwide from his Metro Atlanta, Georgia office. Mr. Coker has participated in 640 cases 158 testimonies involving both plaintiffs & defendants in matters including banking, finance, real estate, business & IP valuation, damages, embezzlement, trusts. He is listed in expert databases recommended by DRI, AAJ members.

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While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.
For specific technical or legal advice on the information provided and related topics, please contact the author.

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