Many businesses that face a shortage of cash for working capital purposes can benefit from non-recourse receivables factoring or invoice discounting.
Both forms of financing provide immediate cash against your receivables so that you don’t need to wait until your customers pay down their invoices, which could be as long as 60 to 90 days, or even longer in some cases.
Factoring represents the sale of your receivables to a financing or factoring firm. The factor evaluates the creditworthiness of the receivables and provides as much as 90% or more of the value of the approved invoices. The factoring firm also takes over the collections process. When your customer pays the invoice amount, the factor remits the balance to you, minus a fee for their service.
There are two basic types of factoring – recourse, and non-recourse. In recourse factoring, you remain responsible if your customer doesn’t eventually pay down their invoice. In that case, you must repay the advance to the factoring firm. In non-recourse factoring, the factoring firm takes on the credit risk, and you are not responsible in the event that your customer doesn’t pay the invoice.
In invoice discounting, you receive an advance against your receivables, but you, rather than the financing firm, retain control of the credit approval and collection processes. In this arrangement, the financing firm will often provide you with bad debt insurance, so that you won’t be responsible for repaying the advance if your customer doesn’t pay down the invoice.
Whether you use factoring or invoice discounting will depend in part on whether you want to retain control of the credit evaluation and collections processes, and whether you wish your customer to know that you have financed their invoices. If you want to retain control of the credit and collection processes, and/or you do not want your clients to know that you have financed their invoices, you would consider the invoice discounting alternative.
The Bottom Line
Both receivables factoring and invoice discounting are excellent ways for you to obtain the immediate cash you need to bolster your working capital, rather than waiting for your customers to pay their invoices. Whichever one you choose, you’ll want to work with an experienced factoring company that understands your industry well.