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What is a Factoring Company?

What is an Invoice Factoring Company?

You may have heard of the concept of factoring, but might wonder, “What is a factoring company?” “What do they actually do?” “Are there different kinds?”

A factoring company is a business that purchases another company’s invoices. Basically, a factoring company offers invoice factoring (or accounts receivable factoring) services to companies of a variety of sizes.

Working with factoring companies is a popular financing solution for businesses that have cash flow issues due to slow-paying customers, seasonal highs and lows or rapid growth.

One important aspect of a factoring company to understand is that businesses don’t borrow any money from a factor. Instead, they are simply advanced their own money ahead of time since it’s their invoice.

How Much Does Factoring Cost?

Factoring costs can vary depending on the factoring company you choose and their fee structure. Different factors have different fee models in place. Some factors charge an overall factoring fee based on factors such as the monthly invoice volume and the creditworthiness of the customers associated with those invoices. Apart from the factoring fees, some providers may also have additional charges for services like money transfers, collateral, and other operational costs.

When considering a factoring company, it is crucial to carefully examine the fee structure they offer. Transparency is key, so make sure the factor you select is clear and upfront about the fees they charge. By assessing different factoring companies and comparing their fee structures, you can find one that aligns with your business needs and offers a fair and reasonable cost for their factoring services.

Why Would a Business Work With a Factoring Company?

Working with a factor company provides businesses with cash quickly, usually within 24 hours. Because it is so fast and simple, B2B (business-to-business) companies find it to be a great funding solution for unsteady cash flow.

Businesses with credit issues also look to factoring as a solution.  Because your funding is based on outstanding invoices, factors look at the credit history of the businesses your company invoices, not you.  Factoring companies approve businesses more easily than a traditional bank loan, there aren’t any long-term contracts, no debt is created and the fees are low.

Can factoring be beneficial, no matter the size or industry?

Yes, factoring can be beneficial for companies of all sizes and across multiple industries, providing them with a way to build cash flow and address their specific financial needs.

What industries use factoring?

Factoring is commonly used across multiple industries, including trucking, transportation, manufacturing, government contracting, textiles, oilfield services, health care, staffing, and more.

What size of comapnies use factoring?

Factoring is commonly used by companies of all sizes, ranging from single-person businesses to Fortune 500 corporations.

What expenses can factoring funds be used for?

Factoring funds can be used for a variety of expenses, such as inventory payments, equipment purchases, employee hiring, and operational expansions.

What purposes do businesses use factoring for?

Many companies use the cash generated from factoring to pay for inventory, buy new equipment, add employees, expand operations, or cover any expenses related to operating the business.

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How Does Factoring Differ From Traditional Bank Loans?

Factoring and traditional bank loans differ in several aspects:

  • Financing Amount: In factoring, the amount of money you can finance is directly tied to the growth of your receivables. As your sales increase, you can access more funding. However, with traditional bank loans, there is usually a predetermined limit or cap on the borrowing amount.
  • Debt vs. Non-Debt: Factoring is not considered a loan, which means that you assume no debt. Instead, you are selling your accounts receivable to a factor in exchange for immediate financing. In contrast, traditional bank loans require repayment of both principal and interest, adding to your overall debt burden.
  • Credit Score Consideration: Factoring companies are primarily concerned with the creditworthiness of your customers rather than your own credit score. Therefore, even if your credit history is less than ideal, you can still qualify for factoring. On the contrary, traditional bank loans involve a thorough evaluation of your company’s financials, assets, liabilities, and credit history.
  • Setup Time: Setting up a factoring account can be a relatively quick process, often taking less than five days. On the other hand, securing a traditional bank loan or line of credit typically requires a longer timeframe, usually between one and two months.
  • Funding Speed: Factoring provides fast access to funding, with funds often available within 24 hours of approval. In contrast, once a traditional bank loan is approved, you generally have immediate access to the borrowed funds.
  • Additional Services: Factoring companies may offer services beyond financing, such as handling collections of your accounts receivable and providing back-office support. Conversely, traditional bank loans typically do not include these additional services.
  • Rate Adjustments: Factoring rates can be adjusted based on the amount of money you finance through factoring. However, traditional bank loans often have fixed annual percentage rates (APRs) that are locked in for the term of the loan.
  • Credit Services: Factoring companies may provide credit reports and valuable information on your existing and potential customers to assist with credit decisions. In contrast, traditional bank loans usually do not include such credit services, requiring you to manage your own credit policy.

Overall, while traditional bank loans provide a predetermined amount of money with interest-based repayment, factoring offers flexible financing based on your receivables, quicker setup and funding times, credit score independence, and additional services tailored to your business needs.

What Industries Do Factoring Companies Work With?

Invoice factoring is available for a wide range of industries, including the following:

Construction

Government

Healthcare

Manufacturing

Oil and Gas

Service Providers

Technology

Telecommunications

Transportation 

Trucking

And Others

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Factoring Agreement Mistakes to Avoid

1. Not Reading Everything

A factoring contract isn’t the most exciting document to read, but it’s important to actually read and understand every detail. And no, skimming does not count.

It might even be beneficial to have a trusted partner also read the document to make sure you don’t miss any important details.

Make sure you’re specifically looking for any type of added fees and be sure to ask the factoring company why they’re part of the agreement.

2. Not Understanding Requirements

Many factoring agreements will have a monthly minimum requirement. Make sure you know what your amount is, if you have one, because you could be penalized if you fail to meet the terms of the contract.

In addition to minimums, know what the penalties are if you fail to meet specific terms.

3. Not Knowing how Factoring Companies Interact with Customers

Since the factoring company you’re working with will be in charge of collecting payment from your customers, you’ll want to understand how they do it.

What does the factor do if a customer is late on a payment? How do they follow up?

These forms of communication are important because they reflect your business as a whole.

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