Spot factoring is a type of financing where your company gets to factor a single invoice. Basically it’s a conventional transaction, but instead of financing a portfolio of invoices, you only finance one.
Factoring companies consider spot financing risky
From a factoring company perspective, this type of invoice factoring is riskier than conventional financing. Because of this, only a few companies have the capabilities – or risk appetite – to offer it. And those that do, charge higher rates to compensate them for the risk. Most clients that use this type of factoring do so because they had a single event – such as a big contract or a big sale – that threw their finances into a tail spin and needed a quick fix. Spot factoring gives them the opportunity to keep operating smoothly.
Understanding the risk – and cost
Why is spot factoring costlier and riskier than conventional invoice factoring? It’s riskier because the finance company often has a single invoice to back the transaction. This means that of the transaction fails, due to a default or a dispute, the factor’s only recourse will be to try and collect from the client. This could create an adversarial situation that could lead to a financial loss. Increased risk is one the major cost drivers in this type of transaction.
Additionally, the amount of underwriting and due diligence that is required to set up an account to process a single invoice is similar, if not more, than the underwriting that’s needed to set up a conventional account. So it requires a lot of work from the factors perspective. And lastly, a spot factoring agreement does not allow the finance company to spread their cost among many invoices. This means they have to realize their revenues from a single invoice – hence the high cost.
Only works for high value invoices
Because of the cost of the transaction, using a spot factor only makes sense if you need to finance a high value invoice from a company that has excellent commercial credit. Often, sport factors will only consider invoices that are higher than $500,000 to ensure that there is enough profit in the transaction to make it worth their while.