A finance company or bank that purchases and takes ownership of another company’s accounts receivable is called a

A finance company or bank that purchases and takes ownership of another company’s accounts receivable is called a:

A. Payer.
B. Pledger.
C. Factor.
D. Payee.
E. Pledgee.

The correct answer and explanation is :

The correct answer is C. Factor.

A factor is a financial intermediary or company that purchases a business’s accounts receivable, or outstanding invoices, at a discount. This transaction allows the business to receive immediate cash, rather than waiting for the accounts receivable to be paid by customers. The factor then assumes the responsibility for collecting the outstanding amounts from the customers, taking ownership of the receivables.

Explanation:

1. Accounts Receivable Financing:
   In the world of finance, many businesses face cash flow problems because their customers do not pay invoices immediately. To remedy this, businesses can sell their accounts receivable to a factor. By doing so, they receive quick access to funds, which helps them cover operational expenses, invest in growth, or meet short-term obligations.
2. Role of the Factor:
   The factor buys the receivables at a discounted rate, which is lower than the face value of the invoices. For example, if a business has \$100,000 in accounts receivable, the factor may purchase it for \$90,000. The factor then takes on the risk of collecting payments from customers and will typically receive the full \$100,000 once the customer settles the debt. The factor profits from the difference between the discounted purchase price and the amount collected.
3. Benefits for the Seller:
   The primary benefit for the seller (the business) is the immediate cash infusion. This is especially valuable for businesses that need quick access to capital but have outstanding invoices tied up in the hands of customers. It also relieves them from the burden of chasing down payments.
4. Risk Considerations:
   The factor assumes the credit risk. If a customer fails to pay, the factor may bear the financial loss, depending on the terms of the agreement. Some factoring arrangements involve “recourse,” meaning the business may need to buy back uncollected debts, while “non-recourse” factoring shifts the entire risk to the factor.

In conclusion, a factor plays a crucial role in providing liquidity to businesses by purchasing their accounts receivable.