So you are looking to increase sales and are considering extending credit to your customers in a bid to attract more purchases. While this is a neat strategy and one that really works in catching the customers’ attention, it also leads to cash-flow problems.
Say you want to buy new inventory or replenish old stock, and don’t forget there are overhead expenses, salaries and wages to consider, but there is nothing left because your customers have failed to pay you back in time or you have extended them a credit period.
This is just one invoicing nightmare your business could face, and this is when factoring comes in as a life saver. Factoring helps you prepare for these moments well in advance. In this article we are going to cover the many benefits of factoring, how businesses are using it to get more done and making it easy for you to implement these same methods into your brand or business. To learn more about factoring be sure to check out the various resources and data points listed below.
What is Factoring?
Factoring is the sales value of your goods that customers technically owe you before they have paid you in full. To break this down, let me give you a quick example.
A customer walks in and buys a product/service that you are selling and agrees to pay you a certain amount in a certain period of time. You agree. So you will record the entry in your book of accounts as Bills Receivable.
Factoring will allow you to sell these bills receivables instead of borrowing on them, as most small and large businesses do. When you sell these receivables to someone else, you are paid in cash which helps improve your cash flow. So essentially you do not have to wait for your customers to make the payment and you still get the cash. This is the essence of factoring and you can consider Bills Receivables as a liquid asset.
As you have noticed, factoring can be beneficial for your business in a number of situations. Here’s three quick bullet points to show some of the main advantages of factoring and how it can help you grow your business.
- Liquidity: As you have seen above, factoring helps in maintaining the liquidity in your business and allows you to maintain a source of quick cash. If you have a relationship with a factoring company, then typically it takes less than 24 hours to sell bills receivables and receive cash in your account. You can receive cash even if the customer chooses credit at the time of sale, delivery, shipment or other sales scenarios.
The first time you are entering into a factoring arrangement with someone, it will take around one or two weeks to get things clear. This is because it involves checking customer credit and banking regulations. After that, it will take around 24 hours, which is pretty good considering the value it offers.
- No debt: Bills Receivables are a liquid asset and in factoring, you are essentially selling assets. You are not taking out a loan and hence, it is not a liability or a debt. Many people think of factoring as raising debts, which cannot be further from the truth. You should take it as an alternative source of financing rather than debt or a loan.
- No more collections: There is a term called non-recourse in factoring, which means that the company or agency buying the bills also receives all the rights on the invoices and the seller is free from all responsibilities as far as the collection process is concerned. This essentially reduces your headache and leaves you with more cash flow.
In some states in the US, the government also allows recourse, which means that you are liable for all the bills that are not collected. This is like debt collection undertaking.
So as you can see, factoring can play a critical part in your business and help you maintain the cash flow, reduce your workload and let you simply do more with less. If this all still seems to be too much to comprehend, refer to this article from Business News Daily on how businesses are using factoring to increase cash flow.
Factoring agreements can be very flexible in nature and negotiating is common ground. So do not take things for granted, instead negotiate hard and try to get the best possible rates and discounts on your bills. This is of course, true for other parties too as they will also try their best to get the best rates. The negotiations are mostly done on additional charges instead of discount percentages.
What you need to keep in mind is that sometimes factoring can be expensive depending on the discounts you are giving and the additional charges that you have to bear directly or indirectly. This can sometimes get expensive, so you need to understand and calculate your needs and the factoring expense to see what is more important and do you really need the cash. Factoring does allow you to avail cash at short notice, but it comes with its own set of expenses.
Having said that, factoring is a poignant way to tap into cash reserves and maintain cash flow in the company. If you are in the business of buying and selling heavy machinery, materials or working with high volume orders, factoring might be a great option for you to look into.