Estoppel Certificates in Factoring Transactions

By Puneet S. Kohli

Factoring is a financial transaction and type of debtor finance in which a business typically sells its accounts receivables to a third party (the factor) at a discount. An Estoppel Certificate is a document that is sometimes used in such transactions to provide assurances from the business debtor’s customers to the factor with respect to the invoices being sold.

In such transactions, the factor takes the credit risk of obtaining payment from the debtor’s customers. In return, the factor gets all the payments from assigned accounts receivables. It is normal business practice in such transactions that the factor insists on a ‘hell or high water’ clause in the factoring agreement with the debtor. This essentially means that the factor is paid the accounts receivables irrespective of any defense, set-off, or counter-claims, etc. Such clauses are enforceable.

In TFS RT Inc. v Shoppers Drug Mart Inc. (“TFS v Shoppers”) the court set out its requirements for the enforceability of such estoppel certificates. In this case, Shoppers Drug Mart Inc. was the customer, Self-Breathalyzer Ltd. (“SBL”) was the debtor and TFS RT Inc (“TFS”) was the factor. Shoppers entered into a contract for the purchase of a self-breathalyzer device sold by SBL and which stipulated that Shoppers was entitled to return unsold product for credit.

SBL also sent an Acceptance of Goods document to Shoppers wherein Shoppers acknowledged receipt of the goods and agreed to make all payments pertaining to SBL’s invoices to TFS without deduction. Ultimately, Shoppers returned to SBL nearly three-fourths of the entire order as unsold resulting in Shoppers owing only $25,477 out of a total of $279,402.61 invoiced by SBL. The factor, TFS, insisted that payment be made at face value and the dispute arose.

The court decided that TFS was not entitled to payment of the face value of the factored invoices because the Acceptance of Goods document was merely an acknowledgement by Shoppers to SBL that it would pay TFS without set off or deduction. The court held that the Acceptance of Goods document did not constitute a promise by Shoppers to pay the face value of the invoices.

For the Acceptance of Goods document to constitute a representation by Shoppers to pay the full amount of the invoices, the Court determined that more precise language was necessary. The Court held that TFS as factor should have obtained an estoppel certificate from SBL that included:

1. An acknowledgment from Shoppers of the amount that it actually owed;
2. An acknowledgment from Shoppers that the factor, TFS, is relying on the representation made; and,
3. Shoppers’ promise to pay the amount owed to TFS

Following the court’s direction, factors should ensure that their credit practices and security documentation better assess the credit risk they intend to take and include an accurately worded estoppel certificate as an integral part of their security.