Many businesses fall upon financial strains that hinder their productivity and interfere with their daily operations. The traditional route has been to acquire a business loan to facilitate those needs. There are other ways to stay afloat while in operation though. One of those ways is a method called “factoring”.
1. What Is Factoring?
Factoring is when a company provides invoice factoring services to alleviate financial pressure. This entails purchasing invoices at a determined discount. A percentage of the invoices are then allocated to the business within days to facilitate those needs. This subsequently enables the factoring company to take claim of the invoices and the payment processes that are accompanied by them. This is very beneficial to the said company for many reasons, one is an immediate increase of monthly cash flow and the shortening of anticipated invoice payments.
Dynamics of a Factoring Company:
- Service is performed for a customer and then they are invoiced usually encompassing a 30, 60, or 90 payment window.
- When a batch of invoices is collected, they are then transferred to a particular factoring company.
- The business is then advanced a percentage (typically 85%) of the invoices presented. This is usually completed within a 24 to 36 hours timeframe.
- The factoring company is now responsible for the collection of the invoice from the initial customer.
- When the invoice is paid in its totality from the customer, the remaining balance is then allocated to the business. A service fee is rendered to the business as well. This is taken directly out of the remaining balance. The fee is usually around 1 to 5%.
There are three types of factoring companies: recourse, non-recourse, and spot factoring.
- Recourse is when the business owner assumes all liability if the invoices aren’t paid. This factoring type is the most common and affordable. Since the company agrees to be held liable for the risks involved within the transaction.
- Non-Recourse of course is when the factoring company assumes the liability encompassed in the invoice’s assignment to them. If the customer reneges on their obligation to pay the invoice, the business can’t be held liable for payment.
- Spot factoring is a type of factoring that accepts one or more invoices excluding a long-term agreement that the other two types entail. Also labeled single invoice financing, spot factoring is a convenient way to monetize invoices for compensation.
Before a business decides on a particular type of factoring, it should analyze certain factors. Evaluating their customer’s payment history and the number of their invoices are to be evaluated. For example, if the amount in question is considered small, the business owner may choose to absorb the risks themselves.
2. Using a Factoring Company vs. a Bank Loan
Using a factoring company has some key benefits that traditional bank loans strain to accomplish. Here are some comparisons that differentiate the two:
- A debt-free form of financing
- Unlimited Capital Allocation
- Approval times are quicker, usually within 1-3 Days
- Financing terms are determined upon the client’s creditworthiness
- Minimal paperwork involved
Traditional Bank Loan:
- Loan amount determined upon business’s creditworthiness
- Longer approval period (even for a small loan)
- Capped funding (loan is limited to a certain amount)
- The principal and interest is repaid within a determined duration
3. Factoring Costs
The costs of factoring are based upon a set of factors. These factors are mainly determined by the invoice’s creditworthiness and financing volume. Fees typically range from 1% to 3.5% for most companies. With some factoring companies, the fees are tailored to their specific circumstance, while others are charged a flat rate. Depending upon the business’s need the factoring cost vary. Factoring costs also depend upon the type of financing received. The different types of financing are purchase orders, Accounts Receivable, Purchase Order, and Trade Payable Financing.
- Accounts Receivables are used to convert credit terms into cash flow.
- Purchase Orders are a viable option for wholesalers, vendors, and distributors.
- Trade Payables finances goods and services directly from the supplier to the buyer.
4. Payroll Funding
Accessing the cash flow needed to meet payroll can be a challenge. Factoring companies can accommodate these needs with efficiency and flexibility. Unlike most bank financing, the right factoring company can provide cash flow to facilitate payroll. Just this aspect of factoring can be a miracle to a business in a strain.
Payroll funding can range anywhere between 80% to 95% of the accounts payable rendered. Employees should be compensated whether the business is growing rapidly or at a slower pace. Successful companies do just that, take care of their employees to facilitate overall growth. Payroll funding facilitates this need with effectiveness and efficiency.
As you’ve probably discovered within this article, there are many benefits for businesses to utilize a factoring company. From payroll funding to funding purchase orders, to invoice funding and even funding for a startup business as well, having a factoring company as an ally, definitely provides a sense of security for many businesses in need. As a business owner, having the ability to exponentially scale their enterprise is worth the ongoing investment. Cash flow is the key to most businesses ‘ success. Choosing the right one to accommodate you shouldn’t be left to just any company. atLine, a division of The Southern Bank Company can facilitate your Invoicing and Accounts Receivable financing needs.