Business Factoring:
The Ultimate Business Financing Solution

Business factoring, or account receivable factoring, is the process of selling commercial accounts receivable (invoices) at a discount to third-party factoring companies. Although receivables factoring originated thousands of years ago with the ancient Greeks and Romans and, to this day, remains the most widely used business financing technique among European companies, American small to medium sized companies have only recently begun to use it.

Ironically, many businesses use a form of account receivable factoring every day, but it is called something else: the credit card. When customers buy goods and services using credit cards, the merchants immediately sell their new receivables to the credit card companies for cash. And like factoring companies, credit card companies make their money by charging the businesses that accept their cards a few percentage points by discounting the amount deposited into the merchant’s bank account. The credit card companies then collect the full amount -- and their profit -- from the consumer. We don't call this business factoring, but it is, in essence, what business factoring is all about – selling an account receivable at a discount for immediate cash.

Apart from credit cards, account receivable factoring is largely unknown to American businesses. Most people who know anything about it associate the practice of factoring with the textile and garment industries, but it has recently expanded to include many different product and service-oriented industries of all sizes. Small business factoring is now widely available in the U.S., and in today’s economic climate, is rapidly becoming a popular small business financing method for cash and credit-starved owners of all types of companies.

Who Can Use Business Factoring?

Factoring companies have very few, uncomplicated requirements for businesses that are interested in account receivable factoring. While traditional small business financing can mean weeks of preparation, and mounds of paperwork, any company who wishes to improve its cash flow and grow using account receivable factoring must meet only two simple criteria:

• Have verifiable invoices to creditworthy business or government customers.
• Require payment from invoiced customers ranging from two weeks to two months. (Some factoring companies will allow factoring invoices outside this range.)

Beyond these basic criteria, factoring companies will each have unique requirements for specific industries and niches. In addition, many factoring companies have a minimum dollar volume for their clients’ receivables and/or the invoices they purchase.
Although account receivable factoring could help many business owners and executives who currently do not use it, receivables factoring does not work for every type of business. Companies that receive cash or credit card payments in full and those that don’t want to expand to include customers who require terms do not need account receivable factoring.

Also, businesses that sell exclusively to consumers will not be able to use the services of traditional factoring companies. So, restaurants, most retail stores, online auction businesses, and the like cannot ordinarily make use of account receivable factoring.

Why Use Business Factoring?

For smart business owners, the benefits of factoring account receivables easily outweigh its costs, making it a superior tool for cash flow management and growing your company. Here are some of the reasons it may be a good choice for you:

• Improve your cash flow
• Use your customers’ credit, not yours
• Tighter control of your receivables, with outsourced collection and accounting included
• Grow your company by extending terms to your customers
• Off balance sheet financing

Improve Your Cash Flow

Many good and profitable companies go out of business because of cash flow problems – money gets tight and they miss payroll or can’t pay other critical overhead expenses.

Factoring companies give you the peace of mind of knowing you will have access to cash as long as you have paying customers. Once you are in a factoring program, you send some invoices to your factor today, and your money can be in your bank account tomorrow.

Quicker turn-around of your receivables means you can sleep well at night knowing that you have money in the bank to make payroll, pay the rent, keep the lights on and buy additional supplies and materials. And you can take advantage of prepaid discounts with your vendors, as well.

Use Your Customers’ Credit

Business owners often put a lot on the line to start their companies, and as a result, their personal credit suffers. And it can take years to build business credit, not to mention the three consecutive years of profit the banks want to see before they will loan you money.

Factoring companies don’t care about your financial statements or either your personal or business credit. For business factoring, you need good customers, customers with good credit and, most importantly, the ability to pay your invoices.

Tighter Control Of Your Receivables

When starting your own business, you probably didn’t dream of spending your time running credit checks on your new and existing customers, keeping track of who owes you money and how long they are taking to pay you, or making those awkward phone calls to plead for your money.

Factoring companies do all this for you as part of their business factoring service! Plus, you will have up to the minute reporting on your receivables available 24-hours a day, every day.

Grow Your Company

With business factoring, extending terms to new and existing customers is easy. If you don’t currently offer terms, you are probably missing out on a lot of business. And even if you are offering terms, you may have turned down lucrative opportunities because of potential negative impacts to your cash flow.

Bigger companies and governmental agencies expect terms and will shun companies that don’t offer to invoice them. Account receivable factoring eliminates this barrier since it gives you immediate access to your money regardless of the size of the customer or the job.

Off Balance Sheet Financing

When your business borrows money, a liability is created on your balance sheet. Bankers, potential investors, and other creditors generally take a negative view of your firm’s liabilities.

Business factoring is never a loan, never creates a liability. The only effect factoring invoices has on your company’s books is that your receivables are converted to cash – as though they had been paid by your customers. Because your balance sheet does not change, account receivable factoring is sometimes referred to as off balance sheet financing.

What Does Business Factoring Cost?

Some business owners object to the perceived cost associated with account receivable factoring. In most instances, though, this is due more to not fully understanding what business factoring does (or will do) for the business than the actual costs of factoring invoices.
Account receivable factoring is generally more expensive than traditional business financing (lending, primarily) with costs averaging 2- 5% for invoices paid within 45 days. But when the business owner or executive is made aware of the value of the additional services factoring companies provide – such as collections, bookkeeping, accounting, and credit reporting – receivables factoring looks much more attractive from a cost standpoint. More importantly, the costs of not factoring invoices can be tremendous. By turning away business because the company cannot afford to extend terms, the owner or executive denies the firm the profit margin and the growth it would enjoy if it were to factor its receivables.

Is Business Factoring For Your Business?

How can you determine if factoring will enhance your business?

If your company has good invoices to sell and one or more of the following conditions is true, business factoring will benefit your firm:

• Your company is new or relatively young and has been turned down for traditional business financing.
• Your company is growing or would like to expand.

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• Your firm is a small- or medium-sized business serves larger customers.
• You frequently or occasionally have inadequate cash on hand to meet obligations.
• You are turning away customers that require terms.
• Your company needs or would benefit from having additional working capital financing.
• You cannot take advantage of significant vendor discounts for paying in cash.
• You need professional collection and credit analysis services.
• You need professional management of your accounts receivable to use your time on other mission-critical activities (such as sales and product or service delivery).

So, after reading through the above list, do you think account receivable factoring will help you and your firm? Chances are, the answer is yes if any of the above describe your company. The next step: find out how to factor, or better yet, talk to a business financing specialist to get started right away!