1.

Factoring:

Explanation: Factoring is a financial transaction where a company sells its accounts receivable (bills
receivable) to a third party (called a factor) at a discount. This helps the company receive immediate
cash flow instead of waiting for the payment from its customers.

Example: Suppose a company in India sells goods to various buyers on credit and holds bills
receivable worth ₹100,000 due in 60 days. Instead of waiting for the payment, the company decides
to factor the receivables. The factor agrees to buy these bills at a discount, say ₹95,000, providing
immediate cash to the company. Once the payment is due, the factor collects the full ₹100,000 from
the buyers and earns a profit from the difference.

Merits:

 Immediate Cash Flow: Provides immediate liquidity by converting receivables into cash.
 Reduces Credit Risk: Transfer of credit risk to the factor, protecting against bad debts.
 Focus on Core Operations: Allows businesses to focus on core activities rather than
collection efforts.
 Access to Working Capital: Helps in meeting short-term financial requirements.

Demerits:

 Cost: Factors charge fees, and the discount on the receivables reduces the overall amount
received.
 Potential Loss of Control: Involves the factor in the company's customer relations, which
might impact relationships.
 Not Suitable for All Businesses: Factors may be selective about the invoices they accept,
which might limit its application.

2. Forfeiting:
Explanation: Forfeiting is similar to factoring but involves longer-term receivables and typically deals
with international trade. Here, the forfeiter (financial institution) purchases the trade-related bills
(e.g., export bills) without recourse, taking on the risk of non-payment.

Example: An Indian exporter sells goods to a foreign buyer on credit, creating export bills receivable
of ₹500,000 due in 180 days. The exporter chooses to forfeit these bills by selling them to a forfeiting
institution at a discount, say ₹480,000. The forfeiter bears the risk if the foreign buyer fails to pay,
but the exporter receives immediate cash flow.

Merits:

 Longer-Term Financing: Suitable for large, longer-term export transactions.

 High Costs: Forfeiting tends to be more expensive due to the longer duration and higher
risks involved.
 Limited Applicability: Not suitable for smaller transactions or for companies dealing with
shorter-term receivable

3. Discounting:

Explanation: Discounting involves the process of obtaining funds by discounting bills of exchange or
promissory notes before their due date. The holder of the bill (creditor) can sell it to a bank or
financial institution before the maturity date for immediate cash at a discounted value.

Example: An Indian company holds bills receivable worth ₹200,000 due in 90 days from its
customers. Instead of waiting for 90 days to receive the full amount, the company decides to
discount the bills at a bank. The bank agrees to pay ₹195,000 immediately (after deducting the
discount), and after 90 days, it collects the full ₹200,000 from the company's customers.

Merits:

 Immediate Funds: Provides immediate access to cash by converting bills of exchange into
money before maturity.
 Flexibility: Can be used for short-term funding needs.
 No Transfer of Credit Risk: The discounting party (bank or financial institution) does not
assume the credit risk.

Demerits:

 Costs Involved: Discounting involves fees or interest charges, reducing the total amount
received.
 Requirement for Eligible Bills: Banks may have strict criteria for accepting bills for
discounting, limiting accessibility.
 Impact on Relationships: Similar to factoring, discounting can potentially impact customer
relationships if involving third parties