If your company is in a period of rapid growth and needs cash quick, factoring could be the solution. Factoring is simply selling your accounts receivables at a discount. While not for every business, it is a short-term solution – typically two years or less – for companies with an equally brief need for cash flow.
Factoring works like this: You sell your account receivables to a commercial finance company – called a factor – at a discount. The factor’s cut should be in a range nominally higher than a bank’s business loan rate. Factors pay approximately three-quarters of the receivables’ value immediately, with the remainder due after they receive payment from your customers.
Your agreement with the factor may include some or all of your receivables. It also may last from one to three years. Factors don’t care about your creditworthiness, but they care deeply about your customer’s credit quality. Typically, this quality is very good.
Why might you consider factoring?
- You need additional cash flow quickly. Most companies pay 30 to 60 days after the invoice date, but a factor’s initial payment usually occurs within 48 hours after invoicing.
- You don’t want a liability on your balance sheet, which outstanding accounts receivables are.
- You want accounts administrations help. Your factor will likely credit-check the customers owing you money, and may provide monthly reports to you.
- You use the cash you receive through factoring to get vendor discounts for quick payment. This offsets some of the cost of factoring.