What is Factoring? How does it work?
Here is the one line definition of factoring. It is a business financing product that helps companies that cash flow problems because their commercial clients are paying their invoices slowly. This solution solves this problem and improves your cash flow, enabling you to operate your business smoothly and focus on growth.
Does this describe you?
Do you sell your products and services to corporate clients? Are they demanding that you give them the option to pay their invoices in up to 60 days? You are not alone. Most corporate and government clients demand payment terms as a condition of doing business with you. They usually have iron clad contracts that allow them pay slowly and there is little you can do to change it. This can create a cash flow problem for small companies that don't have the financial resources to wait for payment and need money sooner.
The basic problem is one of cash flow. Most small companies do not have a meaningful financial reserve, which means that need to be paid quickly in order to pay their own expenses. If they don't get paid quickly, they can run into problems. Either they miss current supplier payments or have to turn new clients away. But you can solve this by financing your slow paying invoices.
Improving your cash flow with factoring
Factoring helps companies that have money tied to slow paying accounts receivable. It allows you to finance your receivables from slow paying - but creditworthy customers. It provides your company with immediate working capital that can be used to pay for your operating expenses.
Aside from providing immediate financial stability, it allows you to grow your business by enabling you to offer terms to your customers without worrying about slow payments. You can always finance slow paying receivables if you need funds. And, the line is flexible and will adapt to your growing sales as long as they are to qualified customers.
Transactions are typically intermediated by a factoring company. Basically, the factor finances your invoices and provides you with immediate funds. The transaction settles once your end customer pays, on their agreed schedule. Most transactions finance your invoices in two installments, called the advance and the rebate. Here is a typical transaction:
- You provide your goods / services to your client and send an invoice
- The factor advances the first installment - around 85% of the invoice
- After 30 - 60 days, your client pays the invoice
- The factor rebates the second installment, the remaining 15% less any fees
Receivable factoring programs are not priced like business loans where there is a periodic APR (Annual percentage rate). Rather they are priced as a discount on the gross value of the invoice, because you are selling the financial rights of the invoice to the factor. The rate of discount depends on the credit quality of your invoices, your industry, your sales volume and your business practices. In general, most factors charge between 1.5% to 3% per 30 day period, though this varies.
Qualification and deployment times
This program is substantially easier to get than a conventional business loan. The most important requirement is to work with creditworthy commercial or government clients. This is the most important requirement because the factor is financing your invoices based on your clients ability to pay. Also, your company should not have any liens on it's invoices or any major tax problems.
Most lines can be deployed quickly - if you follow these steps. On average, most companies receive a proposal within a day of sending an application and can expect to receive their first funding soon after signing the agreement.
Rates as low 1.5% for qualified clients. Advances as high as 85%
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