Compare These Top Vendors for Small Business Factoring

Factoring

Businesses can use factoring to their advantage to generate cash flow, which is necessary to keep them up and running. Factoring allows businesses instant access to cash flow upon the sale of their invoices to third parties, at which time they can replenish their supplies and continue to profit from product sales. Although factoring is profitable for big businesses, smaller businesses might not have as much success with it, although it is worth a try. Keep in mind that factoring is easy because anyone can participate without having to worry about having a high credit score or putting their personal guarantees on a loan. Remember, though, that at the same time, it is risky as a business owner has to give complete control of their collections to a factoring company.

Benefits

Factoring helps a business generate cash flow quickly. Unfortunately for this industry, the 2009 factoring statistics provided by the Asset Based Finance Association (ABFA) were not favorable for smaller businesses. According to the ABFA, overall client numbers had declined by 10 percent for the year. Although, 38 percent of total clients had a turnover rate of $0 to $800,000, yet advances to clients within this group declined by 56.8 percent. Even still, factoring has many benefits for businesses.

Get Money Instantly

Even though you have to wait for your invoices to be paid, you still need cash flow to run your business. The simplest solution is to “sell” your invoices to a third party and get your money immediately. The third party company will benefit by buying your invoices at a discount and then waiting for full payment from your customers.

Funds Limited Only by Your Invoices

With a bank loan, your cash flow will be limited by how much money the bank wants to lend you. This may be less than you need. With factoring, you are only limited by the amount of your invoices. Since you are basically selling a product, you can sell as much as of that product as you have. As you replenish your supply of that product, you can receive more money.

Financial Security

When you send an invoice to a customer, you never know when it will be paid or even if it will be paid. When you sell your invoices, you receive money and the third party gets your invoices. What happens with the invoices after that has no effect on your business. By selling your invoices, you have given yourself the security of knowing that you will get money for your invoice. You also do not have to deal with collection efforts that can cost your business money.

No Personal Guarantee Needed

With a bank loan, you have to rely on the bank to accept your application. They take several factors into consideration, including your company’s age, financial situation, and even your personal credit score. In some situations, default can cause you to lose your personal property. With factoring, you don’t need to have a certain credit score or put your personal guarantee on a loan. All you need is invoices that you have generated from selling to customers. 

Pitfalls

Cash Flow

When you factor your receivables, you are not able to keep the entire amount that you bill each of your customers. The factoring company receives a percentage of each client that you bill. The percentage that the factoring company receives is usually based on how fast the client pays.  The faster the customer pays their bill, the higher the percentage that you must pay the factoring company. Factoring companies pay a specific amount for your receivables up front and then you receive a percentage of the amount coming in after the client pays. Most factoring companies will not purchase accounts that have bad credit.

Collections

When you begin factoring your cash receivables, you lose control over your collection accounts. The factoring company will be very aggressive with your customers in order to get them to pay. If you are a new company trying to keep as many relationships with customers as you can, you may not like another company putting pressure on your clients. You could lose customers as a result of the aggressive collection tactics.

Customer Relationships

Many companies will see factoring of receivables as a bad decision and will look down on the company in the future. When you hire a factoring company, you are selling private information of another business to an outside company. This is often confusing to accounts that are current and have not been overdue. A factoring company requires you to factor all of your receivables, even the ones in good standing.  This can cause bad feelings among good clients.

Factoring Recourse

Most factoring companies have a recourse agreement in their contract. A recourse agreement allows the factoring company to request money back from you if any of the accounts they have purchased do not pay. These accounts are typically written off as bad debt once the company has to purchase them back from the factoring company.

Pricing

Factoring has become more prominent due to economic stresses.  According to Factors Chain, the total factoring volume in the world during 2010 was $2,190,002, an increase of 19 percent.

Factoring Rates

Factoring comes in rates, since you decide how many invoices you give to the third party company. For example, Accutrac Capital Solutions charges rates starting at 1.59 percent. So, if you’re planning on sending $3,000 in invoices to the company, you can expect an immediate return of $2,952.30. You lose out on approximately $47 of the invoice in exchange for cash up front. Other companies may charge more or less, depending on how much you plan to exchange.

Conclusion

Factoring is great for a business because it allows the business to obtain the money they need for their cash flow instantly. Funds are limited only by the amount of invoices they sell to third parties, but as the business sells more products, they can receive more money. However, while factoring offers financial security without having to put a personal guarantee on a loan, it is important to remember that factoring companies keep a percentage and also gain complete control over business collection accounts. This can cause poor customer relations due to higher prices and aggressive sales tactics. It is thus up to each business to decide whether the benefits of factoring outweigh its pitfalls.