Factoring – Buying Receivables

Businesses need positive cash flow to stay healthy and grow. When a business experiences negative cash flow, it needs to cut expenses and/or find financing solutions in order to survive. Many companies that become capital constrained lose significant growth opportunities and even fail from lack of access to capital. In the economic climate of the last couple of years, lack of credit has been a hot topic and has had a significant impact on growth. It is not surprising that more businesses have turned to factoring to meet their cash flow needs.

Factoring is a technique used by companies to manage their accounts receivable and provide financing for their business. Typically companies that have access to sources of financing which are less expensive than factoring would not use factoring as source of credit. Despite the higher costs of factoring, this financial tool can be extremely useful in times when businesses needs fast access to cash, but are unable to secure a line of credit from banks for various reasons.

A factor is a specialized financial intermediary who purchases accounts receivable at a discount. Under a factoring agreement a company sells or assigns its accounts receivable to a factor in exchange for a cash advance. The factor typically charges interest on the advance plus a commission. The price paid for the receivables is discounted from their face amount to take into account the likelihood that some portion of receivables will be uncollectible.

Factoring companies usually specialize in a type of industry. So it is important to be matched with factoring companies that specializes in factoring receivables in the market segment of your business. The better the factor understands your business and your industry, the better value you are likely to receive for your receivables. Each industry requires a different set of skills. For instance, medical factoring requires an audit with an understanding of medical billing to determine the actual percentage of collectible accounts. A construction factoring company must understand mechanics liens, subcontractors, partial payments and many other variables particular to construction. Typically, construction advances are only seventy to seventy-five percent. The reserve is higher to protect the factoring company. There are factors that will finance just about any type of business, all which require a different expertise and each providing a different advance schedule - the percentage of advance can range between seventy and ninety percent.

The application process is typically not complicated. A factoring company needs a copy of each type of invoice, aging accounts receivable and accounts payable. Then it can process and return results within a couple of business days with a proposal if the company has been accepted. After acceptance and submission of the required paper, a company can expect to be funded within ten business days. All of the eligible outstanding accounts can be funded on the initial funding. Afterwards, the new invoices will be funded within twenty-four to thirty-six hours from when the invoice has been submitted. Still, not all of the company invoices have to be submitted for factoring. The company can decide whether or not to factor any particular invoice. However, the discount fee is in part determined by how much volume the company does in factoring. Depending on the factoring company and the factoring agreement, other requirements may be necessary such as customer credit worthiness, monthly volume and the industry that can affect the receivables purchase amount and associated fees.

Factoring receivables advantages for a company are numerous: immediate cash access with no waiting and without incurring new debt, quick payment following invoicing, efficient handling of all invoicing and data entry, relief from the responsibility for collecting no-pay and slow-pay clients, expanded growth capacity through increased production and total sales, the ability to take advantage of vendor discounts. Factoring is a form of financing that does not necessarily depend on business’s credit rating, since the factoring company is interested in the quality of customer accounts. The relationship with the factoring company is not debtor and creditor, and there are generally no long term contracts involved, so factoring can be a flexible source of financing. But the opportunity is still there to establish a lasting relationship with the factoring company. Also factoring can help protect company’s credit rating by providing cash to meet payment due dates.

Actually factoring is a suitable solution for almost any small company. Those who assert that they are having difficulties concerning cash flow are about eight out of ten small business proprietors. To factoring businesses and business owners with an aim of making it big in the years to come, this is an extremely good chance for both. Yet before resorting to bartering with customers, suppliers and employees to minimize the use of cash, factoring could be a better choice. Nevertheless, effective management of cash flow is essential for a company to be able to eventually qualify for less expensive financing from conventional sources. And such alternative sources should be considered temporary and transitional.