Factoring 101: What Is a Factoring Company?

Factoring Company

Managing cash flow is crucial for small businesses. Around 48% of small businesses had concerns about their cash flow in 2020, up from 40% in 2019.

If you’re looking for ways to free up cash flow to help your business function and grow, have you considered using a factoring company? Are you aware of how they can help you gain access to cash tied up in your invoices?

What is factoring and how does it work? This article gives you the basics you need to know to decide if factoring is an option for your business.

What Is Factoring?

Invoice factoring is a form of cash flow financing sometimes known as accounts receivable financing. A factoring company buys your outstanding invoices so you can receive the cash right away, rather than having to wait the 30-90 day terms on the invoices for your clients to pay.

While it is used by businesses ranging from startups to Fortune 500 companies, factoring is especially well suited to small and medium-sized businesses. Small business invoice factoring is a fast and easy way to boost cash flow, especially for businesses that may have trouble securing a loan from a traditional lender.

How Does Factoring Work?

A factoring company pays up to 90% of the value of an invoice as a cash advance and collects the payment that is due from the client. Once it approves an invoice it can pay the money in as little as 24 hours. That makes it ideal for businesses that need cash quickly to cover expenses.

The factoring company charges fees of around 1-5% depending on the amount of money, the length of the invoice period, and the client’s credit quality. Longer payment terms and questions about the client’s creditworthiness increase the fees.

There are two types of factoring. In recourse factoring, the business is responsible if the client fails to pay the invoice by the due date. In non-recourse factoring, the company takes on the credit risk. Some companies offer both options with different terms, so you should make sure you understand the terms you accept.

How Do Businesses Use Factoring?

Some businesses factor all of their invoices, while others use it only for customers that may take longer to pay. They use the cash to pay employees, buy inventory and new equipment, expand the business, or cover other expenses.

Small businesses often prefer factoring over other forms of financing, as it does not involve taking on debt or long-term contracts and the fees are low. It can smooth out uneven cash flow and keep a business afloat between invoice payments.

Some invoice factoring companies specialize in providing services tailored to specific industries, including trucking, construction, health care, or staffing. Some banks offer factoring, but most factoring companies are independent service providers.

A Factoring Company Can Unlock Cash Flow for Your Small Business

Using a factoring company can release cash tied up in your accounts receivable. There’s no need to undergo a long loan application process or take on debt.

Now that you know the benefits, you can research to find the best factoring company for your needs.

If you found this guide useful, keep reading the blog for more tips and growth strategies for your small business.