Factoring
Factoring is an easy way to use a business’s accounts receivable to generate fast cash. Seasonal cash flow is a common business challenge. For businesses with high value purchase orders, contracts and accounts receivable, factoring offers a solution.
Overview
Purchase orders are a common way to order goods and services, especially under government contracts. Once the order comes in, however, the business may not have enough materials on hand to complete the job on time. This is a great time to utilize factoring. Purchase orders, invoices, and contracts can be sold to a factoring agent (called a “factor”) to get cash immediately. The factor then collects repayment when the client pays their balance, charges a factoring fee, and sends the rest back to the business. After the asset is sold to the factor, the funds can be used to acquire materials to complete the job.
Invoice Factoring
Invoices are another great way to get cash in advance of client payments. In some industries, especially fashion, it’s customary to give clients 30 to 90 days to pay an invoice. While the business waits for payment, however, utility bills and other recurring costs will continue to come in. To make it easier to handle these expenses in the interim, a business can use those invoices to bring in cash. As with purchase orders, the factor collects from the client who owes payment.
Contract Factoring
Contracts are another way that factoring can benefit a business’s short-term cash needs. If the client has a good credit history and a record of paying on time, a factor can buy the contract, providing a cash infusion to the business.
Recourse vs Non-Recourse
Factoring can be either recourse or non-recourse, depending on the assets and credit history of the business. Recourse factoring gives the factor the ability to recover their costs from the business. Non-recourse factoring limits the ability of the factor to seek repayment of funds.
Loan Highlights
- Factoring is considered a sale of assets, not a loan.
- The factor collects their payment directly from the business’s clients.
- Purchase orders, invoices, and contracts can be factored.
- Factoring agents charge a fee for their services.
Benefits
- Factoring generates cash quickly so businesses can move forward.
- The business avoids the time and expense of collecting from clients.
- Factors commonly pay up to 80% of the asset’s value up front.
- Non-recourse factoring protects company assets.
Challenges
- The factor can influence client relationships during the collection process.
- Not all businesses have large enough invoices in accounts receivable to factor.
- The business’s clients must be creditworthy.
- Factoring fees may be high.