Any experienced business owner knows that there’s only so long they can endure the frustration of late-paying customers. There’s a certain threshold at which you can no longer calmly request payments since you need money to keep your business running. But at the same time, despite your desperation for cash, you don’t want to upset your customers who continue to support your business. At the end of the day, you still need their orders. Here is the solution to this problem:- Factoring Receivables, Lets know the benefits of it.
For many businesses, especially the small and middle-sized, such situations can be quite a conundrum. At best, payment delays might compel you to pump a little extra money into your business. But in worse case scenarios, delayed payments can cause severe cash flow disruptions.
Lack of adequate cash flow might lead to low business productivity if your employees are frustrated due to lack of pay. Poor cash flow can also jeopardize the business relationships with your own vendors. You will not be able to pay the rent and maintain your business premises as well as you’d like.
The outcome will most likely be ruined relationships with other customers since you will not provide them the best service. In addition, this means you could potentially lose out on new business opportunities.
You could even end up denting the credit score that you might have worked so hard to build. This is because banks and other business financing solutions will charge you more in interest for less.
A culmination of these events can even lead to your business shutting down permanently. A report by the U.S. Bank found that 82% of companies fail due to cash flow problems.
As a business owner offering payment terms to your clients, you might be wondering what is the most viable solution to avoid getting caught in tussles with late-paying clients. Where and how do you break even?
Well, that’s where accounts receivable factoring comes in.
Understanding Receivable Factoring
Accounts receivable factoring, also known as invoice factoring or accounts receivable financing, is a business finance solution that helps business owners transform invoices into working capital.
It provides businesses with an instant cash advance on client invoices instead of waiting for weeks or months for customers to honor their payments. Additionally, with the money provided by factoring, a business can now cater to pressing operational needs that can propel the growth of the enterprise.
Let’s look at the math behind the entire process. After all, you want to be entirely comfortable with the process if you’re going to take advantage of the benefits.
A factoring company of your choosing will buy your receivables or invoices for 60% to 95% of the total invoice value. You will receive the money within 1 to 3 working business days. Sometimes, the advance will reflect in your company account in less than 24 hours. But if you’re creating a profile with the factoring company, it might take longer as the factor evaluates your company.
The factoring company then assumes full responsibility for collecting payment on the bought invoices. After your customers make their payments in full to the factor, they will deduct a processing fee, usually between 1% and 3% of the invoice value. They will then bequeath the balance over to you.
It’s a simple and hassle-free process, right? So let’s walk you through 5 significant benefits you can expect from receivables factoring.
Benefits of Factoring Receivables
1. Instant Working Capital
One of the main incentives to factoring is you don’t have to wait for weeks and months to receive payment. Your factoring services provider will transform your accounts receivables into instant cash you can inject back into the business.
By factoring your client invoices, you will have shifted the stress and frustration of waiting for payments over to the factoring company. This will allow you to continue running your business as usual without any hitches.
The best part about this is you won’t have to wait for weeks to receive your advance. You’ll find that other financing solutions will not be as time-conscious as factoring companies.
Alternative lenders such as banks can take weeks, or even longer, to process your business loan request (that’s if they even agree to give you a loan in the first place). So this sort of arrangement may not be convenient, especially if time is against you.
However, a factoring company will process the transaction in a couple of days at most so you can keep your doors open to new and returning customers.
2. No Collateral Required
Apart from unpaid client invoices, factoring companies don’t ask for any collateral to complete a factoring transaction.
However, business financing solutions like banks, lines of credit, and microloans usually require substantial collateral in the form of assets such as real estate property or business machinery.
Other financing solutions such as venture capitalists demand a certain amount of equity in a business. No one wants to risk losing ownership of a company they’ve built from the ground up.
These are concerns you will not have if you choose to factor as a business financing solution. You don’t have to submit any other documents such as bank statements or proof of company registration to get a cash advance from a factoring company.
Basically, you won’t have to jump through hoops to get your money since the transaction process is swift and almost paperless.
While banks and microloans will consider your credit score, a factor, on the other hand, will not. That’s because your credit score is not relevant to a factoring transaction process. However, your clients’ credit scores will play a part since they’re the ones expected to pay the invoice and not you.
3. Avoid Bad Debt
Another alluring incentive that comes with factoring is the protection against bad debt. Bad debts happen when clients fail to pay a business, and they can be detrimental to the business’s operations.
Bad debt can weaken a company’s cash flow, compelling it to drain vital company resources. As such, you need to set up measures that will protect your business from bad debt as soon as possible. One such measure is by working with a factoring company.
For starters, the cash advance you receive from factoring is not a loan. Instead, it’s money that you’ve rightfully earned, only that you don’t have it on you just yet. This keeps your balance sheet in the green, making it easier to access other forms of financing should the need arise.
Secondly, many factoring companies provide credit screening services without extra charges to their clients. Credit screening will provide you with credit information about potential customers so you can get a clear picture of their willingness to honor their invoices.
Ultimately, this insight will help you make an informed decision on whether or not you should take on the new client.
4. It Can Help You Save Vital Business Resources
Many factoring companies provide extra features and services designed to help businesses save time and money.
For instance, instead of just buying your invoices, some factoring companies will offer to take over your accounts receivables at no extra cost. This means you won’t have to hire an accounts team to follow up on each client invoice and make sure the payments are made on time.
The factor will collect payments from your client on your behalf without charging you extra. This is a service that’s often catered by the factoring fee.
Not having to pay several employees monthly salaries to handle that aspect of the business means you will get to keep that money in your pocket. You can spend the funds on other demanding aspects of the enterprise leading to higher profit margins and productivity levels, such as sales and marketing or sorting out company bills.
5. It’s a More Affordable Financing Alternative Than Other Potential Solutions
Small business owners hold an inaccurate stereotype that factoring costs a lot of money and, as such, is almost restricted to businesses with budgets that can afford the service. The truth of the matter is, initially, factoring was expensive. But that has changed a lot over the years.
The ultimate cost of factoring has dropped significantly, making the service affordable to small and medium-sized businesses. Depending on the industry and the factoring company, the factor can charge as low as 1% in factoring fees.
As highlighted earlier, unless foul play is suspected after the transaction or your client fails to pay the invoice in the case of a recourse factoring agreement, you are not required to pay back the factor a single dime.
Finding a Reliable Factoring Company
Now that you understand the benefits of factoring, it’s time to step out into the market and find yourself a reliable factoring company that understands your business and the nature of your industry.
There are plenty of factors of varying sizes and experiences. Unfortunately, this can make it hard for you to choose a factoring company that’s most ideal for you. To help you select a factor in line with your business needs, consider their rates, the types of factoring offered, how reliable their customer service is, and the duration in which they’ve been in operation.