Overview
Invoice factoring is a kind of business
financing in which a company transfers its credit risk to a financing
company by selling its accounts receivables at a discount to the
financing company. Accounts receivable is the money owed by a debtor to
the company.
How It Works
Three parties are involved in accounts receivable factoring: the
company who wants to avail the factoring service, the financing company
or the factor and the customer who owes money to the company for its
products or services. Invoice factoring can be explained with the help
of an example. Suppose a customer owes $8,000 to a company for any
product or service and fails to pay the company within the stipulated
credit period (40 days), the company can approach a factor if it wants
to accelerate its cash flow. The factor will enquire into the customer's
dues and transfer 80% (sometimes more) of the invoice total ($6,400),
to the company's bank account within 12-48 hours. On the completion of
the credit period, the company will receive the balance, 20% of the
invoice total after the deduction of the factoring fee, which is n% of
the original invoice total. At the end of 40 days, the factor will
collect $8,000-($8,000*n)/100 from the customer. Online factoring is
becoming increasingly popular.
Benefits
Invoice factoring quickly releases the locked up money, thereby
speeding up the cash flow. Time and money involved in collecting dues
from debtors is drastically reduced. The company can make its payments
on time because of the availability of funds. Credit facility can be
extended to a large number of customers without the risk of creating bad
debts. This will help a company to capture new markets because there is
credit guarantee for new customers. Invoice factoring can improve a
company's credit rating.
Cost/Pricing
Factoring is within the means of most companies. Two types of
payments are made to the financing company for the factoring services
rendered by it: service fees and interest charge. Interest charged and
factor service fee varies from company to company and time to time. The
factoring service fee is usually n% of the original invoice amount.
Timing
Money is the life blood of any business. There is no specific timing
as to when a company can approach a factor. Any company extending credit
facility should always appoint a factor to relieve itself of the debt
management.
Companies/Industries
Bankers, suppliers, customers, CPA's, attorneys and brokers can be
good sources for recommending a reputed financing company. Look into the
fee and the value-added services provided by different factoring
companies before choosing one.
