Sell Your Accounts Receivable to Get Immediate Working Capital
Cash flow plays a crucial role in keeping your business healthy. You need to keep money coming in to meet your responsibilities such as paying your staff, your rent, your suppliers and other bills. Even very successful businesses can run into problems with cash flow. These difficulties can often be related to the time lag between making and delivering products and services and actually receiving the money for those products and services.
Your business’s balance sheet may look healthy in that your debtor balance plus cash-in-hand are a good deal higher than your creditor balance. In reality, having a large amount of money owed to you can seriously impede your ability to grow your business. In some cases, it can even cause a business to fail.
As a successful business with a healthy balance sheet, you may be able to address cash flow issues by getting loans. Banks and other institutions are usually happy to lend money to a business that has proven successful in selling its goods or services. However, lenders are very conservative by nature, and getting access to loans can be time-consuming especially during these challenging times. There are documents to submit and applications to complete, and you may need to provide certified proof of your company’s status. Delays in getting new funds from loans or other sources could cause you to lose sales.
How invoice factoring can help
The debtors’ amounts in your accounts are assets, and are shown as such on your balance sheet. Just like any other asset your business owns, debts can be sold. The companies who buy debts are often invoice factoring companies. You can think of invoice factoring as selling assets to a customer who has guaranteed to pay immediately for the assets. You can still offer credit terms to your customers while knowing that you will get paid straight away.
How invoice factoring works
Invoice factoring can be very easy to implement, but some groundwork needs to take place first. The invoice factoring company you use will need to be satisfied that your customers represent a low risk. Therefore, the factoring company will want to vet your customers in advance. You will most likely benefit from talking with your customers prior to trying to factor the invoices you send them.
Once you have created an agreement with an invoice factoring company, you send them a copy of any invoices you want to factor. The invoice factoring company will verify the invoice with your customer. When your customer confirms the accuracy and authenticity of the invoice, the factoring company immediately pays you a percentage of the invoice total. The percentage you will receive immediately will be in accordance with your contract with the invoice factoring company. Normally, this will be in the range of 80-90 percent of the invoice total.
The invoice factoring company becomes the owner of the debt, and your customer will be obliged to settle the invoice with the factoring company. When your customer settles the outstanding debt, the factoring company will send you the balance minus their factoring fee. Factoring fees range from 1 to 2 percent of the total invoice value. The actual fee you pay will be specified in your contract. It will be based on the nature of your business and average invoice values.
Who pays if the customer defaults on the debt?
Who pays depends on the type of contract you have with the factoring company. Most contracts are recourse or non-recourse contracts. Recourse contracts are the most popular contracts, since they have a lower fee than non-recourse contracts. With a recourse contract, you agree to refund the invoice factoring company the money you have received from them for any invoice that remains unpaid after a specified time period. With non-recourse contracts, the invoice factoring company accepts any loss from unpaid invoices, which is why these contracts are more expensive.
Benefits of invoice factoring
The most obvious benefit is that you get cash into your account very quickly after a sale has been made. Being paid quickly for your products or services helps you avoid liquidity problems. It also makes it much easier to plan ahead, since you know exactly when your funds will arrive after each invoice is issued.
While your business will have to pay a fee for this service, some of that can be offset by reducing credit control costs. Once you have sold a debt, you do not have to worry about following up with the customer to get the debt paid. That responsibility now falls on the invoice factoring company.
Drawbacks of invoice factoring
There is some risk of alienating customers by passing your credit control to a third party. If the factoring company is too aggressive or unprofessional in chasing debts, your customers may choose to stop dealing with you. It is important to note that established invoice factoring companies will make every effort to protect your interests while dealing with your customers.
While the percentage fee you pay a factoring company on each invoice is quite low, if you have a big turnover you end up paying a lot of money for the service. If you use factoring for all or most of your invoices, you are paying about anywhere from .055 percent to 2 percent. Many factoring and fintech companies offer rates on a weekly basis, which accumulates quickly over a 30 or 60 day period. It’s important to ask the factoring company how they calculate their rates before selecting the one that’s right for you.
The Bottom Line
Invoice factoring can be an effective solution in the early days of operating a business or during those times of significant growth. To learn more about whether invoice factoring is the right solution for you, call Universal Funding today at 800.405.6035 or complete our rate form and a factoring specialist with get in touch with you right away.
About Universal Funding
Universal Funding is a private funding source that has funded thousands of businesses and more than $2 billion since 1998. We turn your accounts receivable into the funding you need through invoice factoring and can have working capital in your hands in a matter of days.