Factoring is a financial technique widely used by companies. It allows a company (member) to transfer, as part of a conventional subrogation, factoring company (factor) trade receivables. In practice, the original invoice clearly indicates subrogation to the buyer. The latter therefore knows that the payment is to be made directly to the factor.
The factor can propose three services to the member:
- Accounts Receivable Management;
- Financing of assigned receivables;
- Guarantee against the risk of unpaid.
Let’s first look at the accounting consequences of a factoring contract and then understand the nature of the adjustments to be made for the purposes of the financial analysis.
Accounting treatment of a Factoring Transaction with Financing
When the invoice is issued, the invoice registration scheme is not modified. The factoring contract generally provides for the remittance of all invoices to the factor. The payment advice (or purchase notice) is the accounting document issued by the factor that certifies the assignment of receivables and will enable the accounting registration.
To guard against a possible settlement problem (assets, litigation, unpaid …), the factor assesses the risk it takes and constitutes a guarantee fund. The latter is constituted as and when the first bills by the withholding of a sum proportional to the outstanding receivables. When the fund is established, the factor can then finance up to 100% of the amount of the invoices. The sums remaining on the guarantee fund are returned in case of breach of the factoring contract.
According to the companies, the withholding of guarantee is often a subdivision of account 467 or 517, nevertheless at closing as the maturity of the contract cannot be determined and considering the unavailability of these funds, the classification in financial fixed assets is in our opinion the most indicated.
Balance Sheet Corrections for Financial Analysis
The accounting method, which is based on the transfer of ownership of the receivables, has the effect of reducing the customer item to the asset without showing on the liabilities side the amount of the indebtedness corresponding to the advances made by the factor.
To avoid a bias in the financial analysis and to carry out a financial diagnosis faithful to the reality, it is necessary:
- To add to receivables the amount of the receivables which has been transferred to the factor;
- To show in bank overdrafts the advances granted by the factor.
The corrections (in red) make it possible to correct the balance sheet. The information necessary to make this correction can be found in the appendices to the accounts where a summary table of factoring transactions should present:
- Outstanding receivables sold;
- Current account and factor guarantee;
- Short-term advance of the factor
In conclusion, in order to properly analyze the BFR and the debt of a company, it is necessary to be vigilant to properly understand the financing operations of the receivables. Moreover, depending on the accounting rules applied, the posting may be different. Under IFRS, accounting treatment criteria do not usually lead to de-recognition of trade receivables.