Factoring is effectively the process of ‘selling’ your unpaid invoices for cash. As soon as the Factor (lender) receives a copy of your invoice, they effectively ‘buy’ that invoice from you at an agreed percentage of the invoice value and you receive the money straight away. The balance, less an agreed service charge, is paid when the customer pays, and the Factor undertakes all credit management and collections activity following an agreed credit policy.
How does it work?
Once you have fulfilled your customer’s order, you raise an invoice and a copy is sent to your Factoring partner. The Factor will make available to you the agreed prepayment percentage of the invoice value, less an agreed service charge. The Factor is then usually responsible for collecting the outstanding payment from the customer(s); however, there may be times when you want to manage the debt in-house. Once payment is collected, the Factor will credit your account with the remaining balance.
What are the advantages?
An immediate injection of cash. Rather than having to wait 60 or 90 days, or perhaps even longer, you will then have access to the money immediately to re-invest in your business. Having cash up front enables you to pay your suppliers more quickly, and negotiate better terms as a result, taking full advantage of supplier discounts for early settlement.
A further advantage of Factoring is that the credit management function, including collections, can be taken away from you. You are effectively outsourcing the sales ledger management to your Factor, allowing you to get on with what you do best – running your business – without the worry of not getting paid.