Factoring, also known as accounts receivable factoring, is
a business term used to describe a method in which companies
sell their outstanding receivable invoices in order to gain
immediate cash for their business. When a company sells a
product or service, an invoice is created stating the amount
due and the number of days in which the invoice must be paid. This invoice
instantly becomes a part of accounts receivable, which is
money that is owed to a business. After the invoice is generated,
it must be sent to the customer and the business must wait
for the specified amount of time before that invoice is paid.
Often times, for reasons of misfortune or lack of attention,
a debt may go unpaid and extend past the due date. This presents
a problem for the business, which is awaiting payment, in
that it interferes with the cash flow when a debt is not collected.
This is especially true of new, or struggling, businesses.
The process of factoring works when an institution purchases
the invoice for an amount that is somewhat less than the face
value of the debt. This amount can be anywhere between 70-90%.
The factoring company then proceeds to collect the full amount
due for the invoice, which is then delivered to the original
business less a factoring fee.
If a business offers credit terms as part of their sales,
factoring is one way of eliminating cash flow problems. Many
businesses who use factoring receive their money, from the
sale of their invoices, within 24 to 48 hours. This unique
approach also offers a company with the ability to extend
competitive credit terms to their best customers and not have
to worry about waiting for the credit payments. By offering
attractive credit terms, more customers will be drawn to a
business. Most businesses compete in pricing, but a company
is much more appealing if they offer financing options direct to their
buyers. Many consumers do not have the funds to pay for items
upfront, especially if a business markets more expensive sales,
but a customer may be able to agree on delayed payments. Therefore,
a business offering such a deal would sell more inventory
than a company who requires total payment upfront.
It’s important to realize that factoring is not a loan
or a debt. In addition, unlike bank loans, collateral is not
required. It’s simply the sale of invoices, on which
people owe money, to another business for a slightly smaller
percentage than the total due. The original business gets
immediate cash and, for a fee, the factoring company collects
the face value of the debt.
Many businesses, who extend credit, opt for factoring in order
to avoid the hassle of trying to collect money. In addition,
it costs more to have a billing department who is responsible
for creating invoices every month. By factoring, a business eliminates their need for a billing department and saves money
on the hassle of attempting to collect debts.
The cash generated from factoring will allow a business to
purchase new equipment, pay existing debts, increase marketing
efforts, improve planning, process new credit approvals, improve
customer relations and save money on accounting procedures.
Logan Pallas is a business professional and writer.
Visit his factoring portal at http://www.factoringx.com
for more information. Feel free to reprint this article in
its entirety as long as the links, and resource box are not
altered in any way.
