Why you need a factoring company
Factoring is one of the most complicated aspects of business, and many companies don't have a great understanding of the practice. Basically, factoring is a method of gaining quick capital when you don't have it in order to keep your business going or to pursue new ventures. While it may sound like a smart choice, and it often is, it also comes with its share of risks.
While factoring requires a great understanding of your company's profit margins and revenue cycles, it's also advisable that you seek legal consultation before you undergo the process. Factoring companies have been known to take advantage of clients who haven't closed every loophole or who don't fully understand what they're getting into.
What is Factoring?
By definition, factoring (also known as invoice factoring, receivable factoring and accounts receivable factoring) is the process of selling off accounts receivable (or the invoices that will be billed to a customer or client in exchange for goods provided) in order to gain money to continue to finance business operations. It differs from invoice discounting, which is a process that permits businesses to borrow money against their invoices before the customer has paid rather than actually selling them.
Companies may turn to factoring when they fall into a period of insufficient funding and can't fulfill new orders or gain new contracts. It is meant to be a temporary measure used to deal with varying periods of cash flow, not as a long-term plan for funding a business.
While it may seem like a risky venture, when handled correctly factoring can be a more savvy business decision than getting a loan. Banks may withhold loans for a variety of reasons, while factoring companies typically base their decisions only on the amounts of invoices themselves. Factoring also provides money immediately, which can be beneficial when a venture presents itself with no time to navigate red tape.
Risks of Factoring
If you choose to use a factoring service, it's important to be aware of the risks. There are many laws regarding the process of factoring, so you'll want to ensure you aren't in violation when you agree to sell your invoices to a factoring broker.
You'll also want to ensure that the factoring company you decide to use is reputable. Make sure the contract you sign is iron-clad to avoid any disputes that could jam up your time or jeopardize your business. It's advised that you have your company's lawyers review the contract before you make a decision to sign with a factoring company.