Oil Field Hauler
IT Staffing Florida
Many businesses that invoice on credit terms experience severe cash flow shortages. There can be a large gap of time between the day the customer is invoiced to the day the check finally comes in.
Invoice factoring is a financial solution that converts outstanding invoices due in 30, 60, or 90 days into immediate cash for your business. A factoring company will typically fund your invoice as an advance at approximately 90% of the invoice amount. The remaining 10%, called the reserve, is held until the invoice is paid in full by the customer. The factoring company receives a fee based upon many variables. This fee is paid out of the reserve once the factoring company collects the amount due.
18 Years In business & Over 3,200 Clients Funded
Invoice factoring is a form of transactional finance whereby a business sells its invoices for delivered products or services to a factoring company in order to close the cash flow gap. Many businesses do not have additional working capital to finance their customers, but the conventions of their industry nevertheless demand that they offer credit terms to customers.
An invoice factoring service allows your business to monetize current, unpaid invoices into a line of credit that helps you meet expenses, pay suppliers, and cover payroll.
“Invoice factoring” is not a common term. Many business owners have never heard of it. However, you may have heard a variety of other terms including “Accounts Receivable Financing,” “Receivable Loans,” and “Receivable Financing.”
To summarize, a factoring company realizes invoices on credit terms as a business asset that can be used as collateral. Regardless of the term used, at the end of the day a business can get funding that is based on the value of its performing accounts receivable by a bank or a factoring company.
A factoring company specializes in financing only accounts receivable and has personnel with experience who can immediately evaluate the value of the accounts receivables being pledged. This is very important because we will talk later about how to select a factoring company.
Who is involved in the invoice factoring transaction?
If you’re generating invoices and offering credit terms to customers for product or services delivered, then you can pledge each individual invoice or all invoices to the factoring company (Factor) for funding. Factoring agreements will vary, but they will describe what invoices will be pledged, as well as how many accounts will be pledged for factoring. The factor will set expectations for each Account Debtor’s (the customer being invoiced) level of funding.
As the company submits invoices to a factor for funding the factor reviews each invoice and ultimately either funds or declines each specific invoice depending upon the agreed-upon parameters. It is typical for funding to occur within 24 hours of submission.
Each invoice is treated as an individual transaction of its own, and the fees are calculated as such. The factoring agreement is usually a seller/buyer agreement wherein the seller (Company or Supplier) is the “Client” who sells its invoices at a discount to the factor (the Buyer). With today’s technology and real-time electronic reporting, the process is simple, efficient, and perceived as a line of credit based on the invoices being generated. Some business owners feel this type of financial solution is like selling all customers on “Cash on Delivery” instead of offering credit terms.
Typical “Factoring Terms” or “Factoring Parameters” are described in the factoring agreement. Here are some examples of terms used in invoice factoring.
A factoring company uses variable risk ratios and the cost of the administrative burden to determine the fees that it will charge a company/supplier (Client). A factor has typical overhead costs in personnel that will be responsible for servicing the Client. It also incurs other expenses during the relationship, including Credit Analysis Reporting, Tax Monitoring, Online Software Support and Cost of Funds.
The factor proposes terms to the client based on the evaluation of its performing accounts, credit quality of the account debtors, invoice average amount, average of days outstanding per invoice, industry, dilution rates, and concentration ratios. A typical fee can average 0.5% to 5%, and an advance rate from 70% to 97%, depending on the parameters mentioned above.
Factoring companies can customize the fees. Some are flat rates, and others are tiered out by the number of days outstanding. Some factoring companies charge a one-time fee and an interest rate on the outstanding balance. Others charge a tier; for example, 0.5% per 10 days until the invoice is paid with 0% interest. The average cost of invoice factoring in the current market can go as low as 0.5% to 5% depending on the number of days the invoice remains outstanding, sales volume, invoice size, and industry.
To keep it simple to understand, a factoring discount fee is about the same rate as a Merchant Credit Card Processing fee. If your business accepts credit cards, then you will notice fees on your statement averaging anywhere from 1.5% to 4% depending on the card-holder and the credit card that was used. If your business can afford to accept credit cards, then it can afford invoice factoring.
Many businesses can double sales every other month by offering credit terms and adding new accounts. Imagine selling on credit terms but getting paid like cash-on-delivery for approximately 3% of the invoice amount!
By way of contrast ask yourself how much it costs to turn away business. If your business averages a net profit of 10% and you turn away business due to a lack of working capital, then you just lost 10% of your profits instead of the 3% factoring fee. Not to mention you lose a host of other benefits, such as taking advantage of any early payment discounts offered by your own vendors, and the ability to extend credit to good quality customers.
So here’s the real question. Does invoice factoring cost money, or does it make money?
If you’re going to increase sales and expand your business but are limited in your ability to self-finance your accounts receivable, then invoice factoring should make money. If you cannot afford to sustain customers on credit terms, eventually it will cost you money, or you will lose your business.
Qualifying for an accounts receivable financing program is simple. Most companies that sell on credit terms will be approved. However, there are some basic qualification parameters that you should be aware of.
Not all companies will qualify for an invoice factoring service due to the nature of the industry, or the types of clients that are being sold to. Sometimes the risk is just too high for factoring companies to consider. Here are some examples.
Financing invoices can be very beneficial. While all companies have different problems most problems do revolve around cash flow shortages due to extending credit to customers.
Below, you’ll find a comparison between invoice factoring and bank financing.
What are the advantages of factoring? If a business is selling on credit terms, invoice factoring is the best option because the funding grows with your sales so long as you are selling to credit worthy accounts. Factoring companies continually monitor credit on your customers so its like having a added value service to make sure you don't sell to delinquent customers.
What are the disadvantages of invoice factoring?
No solution is perfect, and invoice factoring does come with some disadvantages you should be aware of. Invoice factoring involves a three party relationship and your customer needs to understand in order for you to be able to offer credit terms you will have to borrow against the invoices. The number one concern applicants have is the perception the customer will have once they find out they are needing to factor the receivables.
There are many attributes you should look for in choosing the right factoring company for your business. A successful factoring company should have experts who analyze credit data on a daily basis, a professional staff to follow up on past-due invoices, a minimum of 5-years in business, a staff that understands your industry, financial backing, and up-to-date technology that keeps their customers informed through the use of real-time data. The following tips may be used as a “Factoring Company Buyer’s Guide.”
1st Commercial Credit, LLC is a factoring company with over 18 years in business, specializing in funding receivables for small-to-medium size businesses, including temporary staffing firms, trucking companies, manufacturing and service providers.
18 Years In business & Over 3,200 Clients Funded