What is Factoring?
What is factoring? It is selling your invoices to a factoring company.
You get cash quickly, and don't have to collect the debt. However, you lose some of the value of the invoice.
The factoring company gets the debt and has to collect it. They make a profit by paying you less cash than the face value of the invoice.
You can use factoring to:
- Get money quickly
- Avoid the hassle of collecting bad debt
- Smooth your cash flow
- Borrow money, secured by your debt
Here are some examples of how factoring could help you:
Example: Converting invoices to cash
You are owed £5,000 by a company who you expect will pay in a couple of months. You sell your invoice to a factoring company who give you £4,700 immediately. The factoring company then collect and keep the full £5,000 two months later
Example: Avoiding hassle of collecting bad debt
You are owed £15,000, but you are having difficulty getting the company who owes you to pay. You sell your invoice to a factoring company for £10,000, under a 'non-recourse factoring agreement' (see factoring terminology for further explanation). They then try to recover the money.
Example: Smoothing your cash flow
You issue invoices of approximately £30,000 each month, and have a variety of clients who can take between 1 to 3 months to pay. Therefore, although you issue invoices regularly, the money comes in at unpredictable times, making it difficult for you to manage your cash flow.
You contract out the collection of all your invoices to a factoring company who provide a "professional and courteous" service, so you know they won't upset your clients. They pay you immediately for the invoices, as they are raised, say £29,000 each month. They not only collect the debt, but also manage your sales ledger for you, which cuts down on your administration costs.
Example: Borrowing money, secured by your debt
You have no assets, but issue invoices of approximately £½million each month. With clients paying in approximately two months you have a book debt of £1million. You want a loan of £750,000.
Your bank lends you the money, secured against outstanding invoices that the business holds.
Factoring is a quick and easy way of turning your invoices into cash.
There are some potential disadvantages, the main ones being:
- cost (which can vary depending on the nature of the debt/invoices)
- the fact that your clients have to deal with the factoring companies
- your ability to borrow from other sources may be reduced
We recommend that you get a quote, and then take the quote to discuss with your accountant to see if there are any other financial implications.
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