China orders tighter monitoring of banks’ factoring business

Focus is on loans made against accounts receivable.

The China Banking Regulatory Commission, the banking sector regulator, has ordered banks to better monitor factoring, or loans made against companies' accounts receivable. It said these types of loans must be recorded as nonperforming loans or NPLs if they turn bad.

CBRC warned that there were cases in which companies faked records of receivables as a way to access bank credit and that banks had relaxed their checks on companies' finances.

Shanghai Pudong Development Bank Co. said it did US$21 billion worth of factoring business in the first half of the year, up 51% from the same period last year. China Merchants Bank Co. said it earned US$92 million in income from its factoring business in the first half, an increase of 150% year-on-year.

Financial innovations are creating more risks than CBRC can cope with. CBRC Chairman Shang Fulin warned that the scope of financial risk is changing and the complexity is rising.

China's weakening economy has caused a large increase in accounts receivable as buyers struggle to pay their bills on time and sellers relax their marketing terms to boost sales.

By selling their receivables to banks, which is called factoring, a company can get the cash it needs up front rather than having to wait for customers to make good on a payment. The bank turns a profit by buying the receivables at less than what it will eventually collect as payment. It's a useful option for small firms that often struggle to secure bank funding.