International factoring: an alternative to LCs

Bangladesh should introduce international factoring, which is a type of debtor finance and can act as an alternative to letters of credit, in a bid to boost overseas sales by reducing import costs, analysts said yesterday.

Factoring is a financial transaction in which a business sells its accounts receivable to a third party at a discount.

Factoring is gradually gaining popularity due to an increase in open-account transactions globally, where buyers do not need to make third party payment guarantee, the experts said.   

They spoke at a seminar on international factoring for foreign trade, organised by the International Chamber of Commerce-Bangladesh in partnership with Factors Chain International (FCI), Asian Development Bank and Bangladesh Institute of Bank Management (BIBM), at Westin Dhaka.

But there are some challenges for banks and corporate houses to do the open-account trade, they said, adding that providing buyers with credit in the way can cause severe cash flow crisis.

Further problems can arise if importers delay payment or make no payment at all because of financial failure, they said.

International factoring provides a solution of the problems faced in case of open-account trade as the factor/bank collects money from abroad by approaching importers in their own country, in their own language and in the locally accepted manner. 

Importers are no more interested to import by opening LCs, said Mahbubur Rahman, president of ICC-B.

"Under LC, importers have to provide required margin and sufficient security to their banks in order to confirm LCs," he said.

"Even for a successful importer, there comes a time when the growing requirements for LC margin go beyond the importer's financing ability and LC coverage exceeds the security available to give to the bank."

Moreover, importers need to approach banks for issuing LCs on each occasion of importing goods from abroad, which is really time-consuming, he said.

In LC operation procedures, several banks, including issuing bank, collecting bank, negotiating bank, presenting bank, confirming bank, are involved, Rahman said.

"We should introduce factoring for cross-border market due to its unique features."

Non-LC mechanisms, including open-account trade payment and documentary collection, are being progressively used as methods for international trade payment, Rahman said.

Involvement of many banks increases the cost of international trade and creates barriers in different steps of operation, he said.

Moreover, LC confirmation fees take away a substantial amount of foreign currency to abroad and increase the cost of international trade.

"To fulfil the demand of the importers for credit terms, our exporters need to export under international factoring which is also as secured as LC."

Commerce Minister Tofail Ahmed said international factoring removes the danger of open-account trade under two-factor system very easily, regardless of whether the exporter is a small or large organisation.

The growth in cross-border factoring has been increasing in the developing world, as major retailers or importers in the developed world are pushing for it thanks to its acceptance as a suitable alternative to traditional LCs, said Peter Mulroy, secretary general of FCI.

The global factoring industry has been growing at a rate of nearly 11 percent per annum for two decades to 2009, when the growth fell for the first time as global demand soured, he said. 

The industry grew 4.7 percent to €2,311 billion in 2014 from previous year, according to Mulroy. 

The country can now introduce international factoring on a pilot basis and expand the practice progressively, said Prashanta Kumar Banerjee, a professor at BIBM.

To launch the service in the country, a number of changes would be required in the Foreign Exchange Regulation Act, export policy, and in the process of making shipping documents, he said.  

International factoring is necessary for better and smooth trade finance, said Nazneen Sultana, deputy governor of Bangladesh Bank. "It is time to review cross-border factoring issue by focusing on cost-benefit and legal issues." 

Founded in 1968, FCI is a global network of leading factoring companies, whose common aim is to facilitate international trade through factoring and related financial services.