## Pledging of Receivables

Definition: The firm keeps its receivables (debtors/bills) as security (collateral) with a bank or lender to obtain a short-term loan. The receivables are NOT sold — they are merely hypothecated.

### How It Works

1. Firm holds receivables but does NOT transfer ownership.

2. Lender assesses the quality of receivables (creditworthiness of underlying debtors).

3. Loan amount = 50% to 90% of the face value of receivables (haircut protects lender).

4. Firm must repay the loan — it remains a borrower.

5. If the customer defaults, the firm still owes the lender.

### Quick Reference Table

Aspect	Detail
Nature	Secured borrowing
Ownership of receivables	Stays with firm
Repayment	Mandatory
Balance sheet effect	Debt increases
Funding range	50%–90% of receivables value

### Advantages

Easy and regular funding — banks readily accept quality receivables as security
Flexible — borrow as per need, up to the sanctioned limit

### Disadvantages

High cost — interest is charged on the outstanding loan
Balance sheet impact — debt rises, worsening the debt-equity ratio

Worked example

### Example 1

Numerical Example — Pledging:

A firm has ₹10,00,000 worth of receivables. It pledges them to a bank that finances 80% of face value.

Item	Amount
Total receivables pledged	₹10,00,000
Bank's lending ratio	80%
Loan obtained	₹8,00,000

Key point: The firm still owns the receivables and must repay ₹8,00,000 to the bank regardless of whether customers pay. If customers default, the firm bears the loss AND must still service the bank loan.

⚠️ Common exam mistakes

Pledging is NOT a sale — the firm retains ownership of receivables and is obligated to repay the loan
Pledging increases debt on the balance sheet, unlike factoring (which is a sale and does not create a liability)
The bank gives only 50–90% of receivables as loan, not 100% — the haircut protects the lender against debtor defaults
Do not confuse pledging (secured borrowing) with assignment (transfer of rights to the lender)

Reference:

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