Small business owners faced with liquidity problems can seek a loan through a factoring company. Factoring companies offer business owners finance in exchange for collateral. The use of accounts receivables as collateral in a factoring agreement, allows a small business owner to extract value from monies owed on pending invoices to obtain cash for accounts payables or other operating expenses.
Unlike traditional loan products, the consideration process to a factoring agreement is not based on a company’s credit rating or terms to third party debentures. Factoring agreements are generally termed according to outstanding invoice payment schedules. The unpaid invoices serve as the collateral in exchange for a percentage of the total sum of accounts payable in cash.
Benefits of Signing On with a Factoring Company
Initiating the Process
If a small business determines that invoice factoring may be the best method of obtaining much needed finance, a review is undertaken by the lending party. The valuation of invoices and associated risk determines the amount plus interest and fees a business owner will be beholden to at the end of an agreement.
Some factoring companies allow for consecutive factoring agreements, so that a merchant or other business owner in good standing with volume accounts receivables can request additional capital to cover recurring or new debts, or for operational expenses such as payroll. The standard period for a factoring loan is 60 to 90 days or until the invoices are paid by third parties.
Most factoring companies request reason for funding. Under a factoring agreement, there is no legal condition to service of third party debts. The resolution of said debts is generally the reason most small business owners provide in the request, however. Payroll and vendor obligations are typically cited as priorities when seeking factoring finance.
While credit worthiness and reason for request for a factoring agreement is not mandatory, most factoring companies want a good faith statement that evidences intent to pay interest and servicing fees on the transaction. Transfer of accounts receivables collateral to a factoring company is generally the sole basis for agreement to the transaction.
Factoring is Sustainable Finance
The number of accounts receivables or amount of total invoices offered to a factoring company in exchange for cash will depend on the lender’s appraisal of the accounts, and the business owner’s request. Eligibility of invoices has much to do with the receivables schedule and the sector. Depending on the industry, some small and medium-sized enterprises (SME) can factor invoices in the millions, annually.
Although a nontraditional approach to capital fundraising in terms of rapid expansion, factoring offers a medium term growth mechanism for SME sustainability. With factoring, companies can obtain the financing they require to accelerate cash flows to produce profits. The best option for SME without credit worthiness, factoring supports business operations with the additional cash required to purchase much needed inventory or technology, or to cover payroll and vendor obligations on time.
Invoices for Cash
Of all the capital fundraising instruments, the most accessible are those that focus on funding of equipment, inventory, or other operations related purchases. If a business is in need of immediate liquidity, one of the easiest and most reliable methods of accessing a loan is to factor existing account receivable assets.
With factoring, a business does not face the risk of losing potential customers in response to inventory or logistical delays caused by cash constraints. The future of a small business may seem tenuous without adequate operations capital, yet most companies with a year or more of transaction on record have accounts receivables for trade.