Business owners often struggle with cash flow issues from waiting 30, 60, or 90 days for a customer to pay. It becomes difficult for large and small businesses to access their working capital and often fall behind on necessary expenses.
Invoice factoring, also known as accounts receivable factoring, provides businesses with cash advances on their unpaid invoices. Instead of waiting for a customer’s payment, an accounts receivable financing company will quickly advance the invoice amount, allowing businesses to operate and grow using the funds they’ve already earned.
Before getting into a factoring agreement, it’s important to choose a company that offers your business the best factoring services. Here are the best tips on how to choose an invoice factoring company for your business.
How does invoice factoring work?
A business sells its accounts receivable to an invoice factoring company at a discount to receive payment in as little as 24-hours. A factor advances up to 95% of the invoice upfront, then remits payment minus a fee once the customer pays.
A business starts selling its invoices for working capital once a factoring agreement is signed. Here is the process:
- A customer issues an invoice with net terms once a product or service is delivered or completed.
The company sells the invoice to an invoice factoring company to access working capital.
- Once the invoice is verified, the factor advances a portion of the invoice amount to the company. The rest if held in reserve.
- The fast payments provide the business with cash on hand. They can buy inventory, add new customers, pay employees, and grow the business.
- Once the customer pays the outstanding invoice at the end of the payment terms, the business receives the remaining funds, minus a small factoring fee.
Choosing a factoring company for your business
Here are some questions to ask when choosing an invoice factoring company to overcome your cash flow gaps.
What factoring services are offered?
It’s important to understand what type of service you need for your business.
Invoice factoring or invoice financing
- Invoice factoring: As mentioned above, invoice factoring is the process of a business selling its accounts receivables at a discount to receive an advance on an unpaid invoice. Invoice factoring is a debt-free form of financing because your cash advances are dependent on the invoice you submit.
Invoice financing: Businesses don’t sell their accounts receivable but instead use them as collateral to qualify for a loan with invoice financing. The loan amount is dependent on the strength of your business invoices.
Non-recourse or recourse factoring
- Non-recourse: Business owners are not liable for a customer failing to pay an outstanding invoice. This is riskier for the factor, and the fees are typically higher because of that. The factoring company won’t accept invoices from customers with bad credit.
Recourse: The business owner takes on the risk of a customer failing to pay an invoice. The business is responsible for paying the factoring company the total invoice amount if a customer doesn’t pay. The fees tend to be lower as there is less risk for the factoring company.
Spot factoring or whole ledger factoring
- Spot factoring: Spot factoring involves no long-term contract as it’s factoring a single invoice on a one-time basis. Fees tend to be higher.
Whole ledger factoring: A business must submit all client invoices when using whole ledger factoring. Fees are lower, but there is usually a high cancellation fee if a company wants to terminate the contract before the term is up.
Are there hidden fees in the contract?
After signing a new contract, the worst thing is learning about all the hidden terms and fees you agreed to without knowing. It’s essential to look over the contract before signing.
- Minimum requirement fees: Some factors make businesses meet a minimum monthly requirement of invoices per month. If they fail to make the minimum, the factor will charge an additional fee.
- Termination fee: Some factors will charge a hefty cancellation fee for terminating a contract before the terms are up.
Due diligence fees: Some factors will charge an additional fee for verifying a client’s background to ensure they are in good standing.
Some more questions to ask yourself:
How quickly will you be approved and have access to funds? Porter Capital approves you in as little as one business day, and you can start factoring immediately.
- Have clients left good reviews? It’s always important to see what past and current clients say, as they are the ones in your shoes.
- Do they have good customer service? There’s nothing worse than working with a factor that has bad customer service, especially when the relationship involves your money.
What is the advance rate? This involves your cash on hand, so you must be comfortable with what you receive.
Finding a factoring company can be challenging and time-consuming, but worth it for your business. Learn more about how invoice factoring can help grow your business by speaking with one of our specialists today. Click here for a free consultation.