Cash Flow Management

Introduction to Factoring

What it is
Factoring is where an agent (or factor) buys all or some of your outstanding invoices, sometimes called accounts receivable or debt outright, advances you up to 90% of their value and repays you the remaining amount, minus a commission plus interest on the advance when the accounts are settled.

The amount a factor is willing to advance will depend on the calibre of the debtor. You will be granted a higher percentage on money owed to you from a blue-chip company or household name than from a sole trader.

The factor then administers your sales ledger, taking responsibility for the debts Sending out account statements to your client and chasing up outstanding payments. Bear in mind however, in some cases they can still pass bad debts back to the clients if these are incurred (with recourse factoring).

Good factoring companies will normally seek to work efficiently and politely with your clients to ensure that your firm’s goodwill remains intact where possible.

What it’s for
Factoring is especially useful for generating working capital, ie when a business needs cash immediately and is willing to pay a commission – normally in the region of 0.5% to 4.5% of the amount outstanding – to release it.

The rates and deals available vary greatly from business to business and it’s always best to get references from the factor’s other clients before entering into a binding contract.

The case for
On the upside, factoring allows your income to grow in line with sales since it reduces the period of the cash conversion cycle, ie the time between buying your raw materials and receiving cash for the finished product. It also frees your business up from the time-consuming and costly administration of customer account management and liquidates your cash so that you have access to it when you need it.

Factoring is particularly useful when a company is growing rapidly and may need more funds than an overdraft can provide. It can also be useful for smaller companies who don’t want to have to spend time and money managing their own sales ledger.

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