Cash flow is the lifeline of any business. Steady, consistent cash flow is essential for both start-up and growing companies. A common way B2B companies do this is through invoice factoring.
What Is Invoice Factoring?
Invoice factoring is a financing solution in which a company sells its open invoices at a discount to a factoring company in exchange for immediate cash. Since factoring is not a loan, no additional debt is created. Invoice factoring eliminates the wait for customer payment and provides working capital so companies can meet payroll, catch up on bills, and invest in new resources.
How Does Factoring Work?
Many people have heard of invoice factoring, but they’re unaware of how simple it really is. First, a business finds a factoring company that can meet the needs of their business. Once you’re approved and set up for factoring, you’ll send your invoices directly to the factoring company. When the factoring company receives the invoice, it will advance a percentage of the invoice total, usually around 90 percent, within 24-48 hours.
Next, the factoring company sends the invoice to your customer and waits for payment. Once your customer pays the invoice, weeks, or even months later, the factoring company will pay you the remaining 10 percent, minus a small fee for the services.
Why Do Businesses Use Factoring?
Businesses turn to factor to get working capital to meet daily business expenses and give them the opportunity to take on new and bigger contracts. Businesses in a variety of situations utilize factoring companies.
- Start-Up Companies: Start-up companies use factoring to get off the ground running. After you’ve invested everything into opening the doors, you need to make sure you get paid on time. Factoring solves this problem as it pays you the day you invoice your customer.
- Growing Companies: Companies that want to take on additional or larger contracts use invoice factoring to give them the confidence they will have cash when they need it.
- Credit Issues: Companies with no, less-than-perfect, or maxed-out credit use factoring companies to fund their businesses. Invoice factoring qualifies businesses based on the creditworthiness of the customers they’re working for rather than the business itself.
- Slow-Paying Customers: As mentioned above, invoice factoring speeds up your cash flow. Instead of waiting 30, 60, or even 90 days for payment on your invoice, you’ll get paid same day.
How to Pick a Factoring Company?
There are many factoring companies to choose from. It is important that you ask the right questions and considers several variables to pick one that is right for your company. Below are just some of the things you should think through when choosing a factoring company.
- Experience: Be sure the factoring company has experience with companies in your situation.
- Credibility: Take a look at online reviews to make sure you’re working with a well-trusted company.
- Back-Office Support: Many factoring companies offer other services to help with your back-office obligations. Find out what additional services are included and what the related costs might be.
- Industry Expertise: Factoring companies typically have industry niches. It is a good idea to find one that is experienced in your industry.
- Recourse versus Non-Recourse Factoring: There are two different types of factoring, and depending on your situation, one might be better than the other for your business.
- Account Setup Speed: If you need to speed up your cash flow and you need it quickly, make sure the factoring company can get you set up and funded on time.
- Funding Frequency: Do you need funding, weekly, twice a week, or daily? Make sure the factoring company can meet your needs.
- Advance Rates: Advance rates vary, but are generally around 90 percent.
- Fees: You’ll be charged a factoring fee for the service. This fee varies based on a number of items. Be sure to read your contract in detail to make sure there aren’t any additional or hidden fees.
- Length of Contract: Contracts can be a one-time deal, up to two years, or even longer. Be sure you know how long your contract is and if there are any penalties for ending it early.
- Ability to Grow: For any business, the ability to grow is essential. Make sure your factoring company will grow with you.