Factoring financing has been gaining popularity in the past few years. While invoice financing is a very effective product at helping companies that have cash flow problems, it is not for everybody. This article will help you determine if factoring is the right solution for you and your company.
Do you have this problem?
First and foremost, let’s determine the specific problem that this tool solves. Factoring financing helps companies that have cash flow problems because their customers are taking up to 60 days to pay their invoices. Because of this, some companies have problems meeting their own operating expenses. Additionally, they also have problems signing on to customers because they can’t afford to offer them payment terms.
If used correctly, factoring can fix this. Usually, your company will be a good candidate for this type of financing if all or some of following statements describe your situation:
- You are having problems making payroll
- You are having problems paying suppliers
- You are having problems taking on new clients because you can’t offer them payment terms
- Your customers have good commercial credit, and lastly,
- Your company has good invoicing practices
How does it work?
An invoice factoring transaction provides an advance on your accounts receivable. Instead of waiting up to 60 days to collect your money, the factoring company fronts you the money using your invoices as collateral. This gives you the operating capital to meet ongoing expenses and take on new clients. Transactions are usually structured using two installments. The first installment covers about 80% of your accounts receivable and is provided as soon as the work is invoiced for. The second installment covers the remaining 20%, less the financing fee, and is provided as soon as your customer pays in full.
Are you a good candidate?
Account receivable factoring transactions differ from other financial transactions in that they use your invoices as the main collateral for the transaction. This is important because from a collateral perspective, the most important requirement is to have credit worthy invoices. This puts factoring within the reach of small companies whose biggest asset is a strong roster of customers. Additional advantages include flexibility and scalability. Additionally:
- Your invoices should not be encumbered by liens
- Your company should not have serious tax problems
- Your company should not have serious legal problems
Factoring won’t solve these problems
Perhaps a good way to finish this article is to mention what financial problems are usually not solved with factoring:
- You need capital to buy large pieces of equipment
- You need capital to buy real estate
- You need startup capital to pay initial corporate expenses that are not associated with sales
These problems are better served by other financial products.