TReDS (Trade Receivables Discounting System) is an institutional setup for flow of finance to micro, small and medium enterprises (MSMEs) through multiple financiers at a competitive rate. The model outlined for TReDS in the paper, envisages its operation both in primary market segment as well as a secondary market segment as authorised payment system under the Payment and Settlement System (PSS) Act, 2007. The activities of TReDS are also subject to supervision of RBI.
Participants in TReDS
There are three direct participants involved in the activities of TReDS viz. i. MSME Sellers, (ii). Corporate Buyers, and (iii). Financiers. The TReDS will provide the platform to bring these participants together for facilitating uploading, accepting, discounting, trading and settlement of the invoices / bills of MSMEs. The bankers of MSMEs and corporate buyers will be provided with access to the system, wherever necessary, for obtaining information on the portfolio of discounted invoices / bills of respective clients.
As the underlying entities are the same i.e. MSMEs and Corporate buyers, Public Sector Undertakings and Government Departments, the TReDS could deal with both receivables factoring as well as reverse factoring.
Factoring and reverse factoring
Factoring refers to a financial transaction where a supplier sells his invoices (book debts/receivables) to a third party at a discount. The third party (fancier) who discounts the invoice is called factor.
The MSME trade receivables discounted by banks and other financial institutions on TReDS are essentially in the form of a reverse factoring system. In reverse factoring, the seller (supplier) trades his duly converted factoring units of invoices/bills of exchange, to the financier at the behest of the buyer corporate. The financier (bank or Non-banking financial institution) who buys these factoring units, steps into the shoes of the supplier to receive payment from the corporate buyer on due date. Once the invoice/bills of exchange is discounted by the financier, the onus of collecting payment from corporate buyer rests with the financier without recourse to the seller (supplier who sold the invoices/bills of exchange to the financer is discharged from liabilities to the financer on account of discounted invoice). Another advantage to the supplier is that the rate of interest decided by the financer while discounting the invoice (factoring units) is based on the rating of buyer corporate and not on the rating of the seller. He therefore gets the better pricing in the competitive bidding due to good credit rating of his clients.
Features of factoring units
The standard format / features of the ‘factoring unit’ may well be the face value of entire bill/invoice amount or it could a pre-defined face value viz. in multiples of 1,000 or 10,000 or 1, 00,000 as decided by the TReDS. To enable this, the TReDS will have suitable mechanism, whereby the invoice / bill are converted into “factoring units” and hold them in dematerialized form. Each factoring unit will carry the details of the seller and the buyer, issue date (could be the date of acceptance), due date, tenor (due date – issue date), balance tenor (due date – current date), amount due, unique identification number generated by TReDS, account details of seller for financier’s reference (for credit at the time of financing), account details of buyer’s bank for financier’s reference (for debit on the due date), the underlying commodity (or service if enabled). Each such factoring unit will have the same sanctity and enforceability as allowed for physical instruments under the “Factoring Regulation Act, 2011” or under the “Negotiable Instruments Act, 1881”.
Primary segment of transactions through TReDS:
MSME Supplier receives the purchase order from the corporate buyer. The supplier (seller) delivers the goods/service to the buyer along with an invoice/bill of exchange. Pursuant to the delivery, the supplier converts the invoices/bills of exchange of delivered goods into factoring units through TReDS. Further, supplier may host on the TReDS, the supporting documents evidencing movement of goods etc. The factoring unit created on TReDS is intimated to the buyer and his bank through automatic generated notice of TReDS.
The time window available for corporate buyers to accept the factoring units is standardized by TReNDS. The time window may vary based on the underlying documents like invoice or bill of exchange as they will have separate transaction module. The buyer logs on to TReDS and flags online these factoring units as ‘accepted’. When the buyer accepts the factoring units online, it binds him to discharge the obligation of the buyer to pay the dues on due date. There is no scope for disputing with respect to quality of goods or otherwise. No set offs allowed under TReDS.
The financers registered with TReDS may finance against these factoring units. The financer who expressed interest in financing factoring units may quote ‘all-in-cost’ on the TReDS. There will be window period provided for financers to quote their bids against factoring units. The price quoted by particular financer can be viewed only by the MSME seller which will not be available to other financiers to view it. Further, there will be no option available to the financers to revise their earlier bids quoted on line. This system will ensure the competitive pricing offer from the financer. The seller can opt for a financer of his choice.
Upon acceptance of bank’s/FI’s bid by the seller the funds will be credited to the seller’s bank account on T+2 basis (T being the date of bid acceptance). These financed instruments will be rated by the TReDS, on the basis of an external rating of the buyer corporate, nature of instrument (invoice/BOE), previous payment records of corporate buyer with TReDS. The financing bank on release of funds to the supplier generates a notice / advice to the buyer and buyer’s bank informing them to make note of finance made against trade receivables from the buyer corporate. The notice also calls upon the buyer’s bank to make note of the debit instruction for the value due and due date under the settlement obligations generated by the TReDS.
On the due date of payment, TReDS will advise to buyer and buyer’s bank to arrange the funds for settlement of financer’s due. The payment made by the buyer will go to the account of financer through the direct debit authority and settlement process mechanism of TReDS. In case the corporate buyer fails to settle the dues of financer on due date, such failure may be deemed as default which will have the bearing of various repercussions including penal actions against the corporate buyer.
Secondary segment of transactions through TReDS:
Whenever further discount or re-discount of receivable transactions takes place in the secondary segment, TReDS automatically generates notification of assignment in favour of new financier. TReDS will further generate a ‘notice of assignment’ intimating the buyer to make payment to the new financer. The payment made by the buyer will go to the account of new financer through the direct debit authority and settlement process mechanism of TReDS.
The TReDS is vested with the authority to conduct random audits of the participants so as to ensure that there is no window dressing taken place and only authentic factoring units uploaded on the exchange,.
RBI releases Names of Applicants of Trade Receivables Discounting System (TReDS)
The Reserve Bank of India on 25.03.2015 released the names of applicants who have applied for setting up Trade Receivables Discounting System (TReDS). These are:
Sr.No. Name of the entity
- NSE Strategic Investment Corporation Limited (NSIC) and Small Industries Development Bank of India (SIDBI), Mumbai
- Trade Receivables Exchange (Group of Banking Professionals), Mumbai
- Axis Bank Limited, Mumbai
- Mynd Solutions Pvt. Ltd., Gurgaon, Haryana
- DICIC Bank of India, Kolkata, West Bengal
- NSDL Database Management Limited (NDML), Mumbai
- Trade Receivables Exchange (T-REX), Mumbai
It may be recalled that the Reserve Bank of India had invited applications for setting up of and operating the Trade Receivables Discounting System (TReDS). The last date for receiving applications was February 13, 2015 which was extended up to March 9, 2015.
There have been growing apprehensions among the bankers of fake bill transactions conducted through TReDS platform. Finance Minister Arun Jaitley in his latest Budget 2018 speech informed that public sector banks and corporates will be on board when it comes to TReDS and will be linked to GST. Linking of the TReDS to the GST Network (GSTN) once implemented is expected to drastically reduce, if not completely eliminate the problem of fake bills, as all these bills will be authenticated from GSTN. The linking TReDS to GSTN will also allow banks to have access to cash flow information of MSMEs which would immensely help in evaluating the credit worthiness of parties and credit decision-making.