Factoring is an alternative to traditional types of business financing and is used by businesses to improve cash flow and reduce bad debt. The business does this by selling invoices to a third-party finance provider at a discount.
In other words, instead of waiting for your customers to pay, you would borrow against the money you are owed.
How does factoring work?
- The business supplies goods or services and invoices to the client as usual.
- The business sells and assigns invoice to the factoring provider.
- The factoring provider transfers around 80% of the invoice to the business.
- The client settles the invoice in full with the factoring provider when the invoice is due.
- The factoring provider forwards remaining 20% of the invoice value minus fees.
Advantages of factoring
- Factoring provides a quick boost to cashflow. This may be very valuable for businesses that are short of working capital.
- Factoring allows smoother cashflow and financial planning.
- Factoring providers may give you useful information about the credit standing of your customers and they can help you to negotiate better terms with your suppliers.
- You will be protected from bad debts if you choose non-recourse factoring.
- Factoring providers will credit check your customers and can help your business trade with better quality customers.
Disadvantages of factoring:
- Factoring companies have high fees and as a result, invoice factoring is very costly. Financing via factoring costs more than bank offered lines of credit.
- The cost will mean a reduction in your profit margin on each order or service fulfilment.
- It may reduce the scope for other borrowing – book debts will not be available as security.
- Factoring providers will restrict funding against poor quality debtors or poor debtor spread, so you will need to manage these funding fluctuations.
- To end an arrangement with a factoring provider, you will have to pay off any money they have advanced you on invoices if the customer has not paid them yet. This may require some business planning.
- Some customers may prefer to deal directly with you.
- How the factoring provider deals with your customers will affect what your customers think of you.
- It’s labour intensive. Once your financing line is in place, you need to send funding requests to the factoring provider every time you need an advance.
Why CreditDigital is better than factoring:
Factoring is not only very labour intensive but also costly for a business. Factoring companies usually require their customers to mail or fax in original copies of every single invoice. What is more there is additional work required throughout the collections process, as the business often retains liability over the outstanding invoices.
Thanks to CreditDigital, you get 100% of your invoices within 1 business day, totally risk-free and cost-free. Furthermore, our payment solution seamlessly integrates with your online checkout, eliminating the difficulty of collections. CreditDigital gives your business customers choice of payment terms, from 30 days up to 360 days, which helps you increase sales.
Offer a credit line to your business customers today!