Factoring is a financing technique where the accounts receivables of one company are sold to a factor, or a firm that specializes in handling these assets. In turn, the factor finances the company selling their accounts receivables; the amount of the financing is less than the face value of the debts, however. Factoring is also known as accounts receivable financing.
Many companies use factoring, and for a number of different reasons. Collecting debts is a tedious job, and some organizations would rather sell what's owed to them at a discounted price than use collection agencies or other methods to recover those debts. Small businesses, for example, may not have the manpower or resources to collect debts, and ultimately pay a factor to do it.
Growing businesses with cash flow problems should consider factoring as a financial solution. This service works well for businesses with steady, reliable customers. It can provide cash for a short period of time until invoices are paid. New businesses often choose this solution until they have time to build up cash reserves.
How Factoring Works
Companies must extend credit terms to their customers. It sometimes takes 30, 60, or 90 days to be paid for services or merchandise delivered. As sales grow, accessible cash often becomes a problem. Lenders will evaluate invoices and issue a short-term advance for 70 to 90 percent of the total due. The money is deposited directly into a company's bank account for immediate use. When the invoices are paid by the customers, the lender collects the amount advanced plus a fee.
Factoring allows businesses to grow more rapidly. They can pursue large sales and still have cash available for payroll and other necessities. This flexibility is beneficial to long-term planning and allows for customized terms that fit individual needs. Personalized service is an important consideration when choosing a lender. Factoring may be started and stopped any time. There are usually no minimums. It provides more cash than bank lines of credit. Money is advanced based upon actual sales. Therefore, the amount of the funds automatically matches the amount needed for continued growth of the business. This service provides a reliable, predictable source of income to ease any concerns about cash flow. It is a quick financing solution with reasonable rates.
Factoring Turns IOUs into Capital
For a business with assets locked up in accounts receivables, nothing is more frustrating than hounding customers for payment... and then not receiving it. The focus of the company shifts from production to administration, and both time and resources are lost. There is no way of accurately measuring the mental losses of chasing down overdue bills. Selling those debts to a factor turns them into capital--without threatening phone calls or letters. Granted, the financing the factor gives isn't the same as the amount of the debts, but that's the price of eliminating the hassle. After paying the company for the accounts receivables, the factor collects cash when the debtors settle their accounts.
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