The Factor, Hidden No Longer

The possible collapse of CIT Group brings to light a side branch in distribution channels: factoring. Factoring is a complicated if dusty business. In its simplest form, a factor buys up manufacturers’ receivables as soon as goods are sold, at a nice discount off their face value. In return, the factor waits for retailers’ checks to arrive within 60 days of billing. Very precise calculations of carrying costs and risks are required.

In good times, factoring is a good business. In bad times it is not.

From my angle, the CIT story spotlights the very essence of a distribution channel: its in-between parts. In this case, in between a manufacturer making something and a retailer selling it is a factor greasing the financial gears where the movements of the two rub together. Each player contributes its own specific, and crucial, value to the channel. Each assumes its own specific, and characteristic, risk.

When a manufacturer forward integrates by buying a retailer, it extends its value and takes on unfamiliar activities and risks, the factor’s role included. Same goes in reverse for a retailer that backward integrates into manufacturing. My own view is that companies should be very cautious about integrating their value chains through ownership. While the shorter-term value gains tend to be seductive, the longer-term complexities and the risks are more hidden; so are the costs.

CIT’s peril gives us a surprising, and therefore, excellent object lesson in what some of those risks entail.