Factoring Business: A Driving Factor for the Economy

In many businesses, cash flow is a major factor to drive the business properly. Here comes the importance of a factor that acts as a helping component for the business to run. So, let’s understand what actually is a factor.

A factor is a bridging agent that provides finances to companies by buying their account receivables or invoices. Simply, it is a funding source that agrees to pay the company the suitable value of an invoice. The role of a factor is to find the creditworthiness of the company either by providing a loan or by finding a potential party to buy the invoice. 

What is factoring?

Factoring can be simply defined as a financial transaction in which a business makes a sale of its account receivables or invoices to a third party. It helps a business to meet its immediate goals or cash flows. In many markets, factoring is also seen as a form of invoice discounting. Though these two financial terms sound similar, they are used in different contexts. By providing significant discounts, factoring allows a buyer to make profit upon the settlement of a debt.

Process of Factoring

Factoring is one of the oldest forms of business financing where cash management is the prime choice of many companies. Usually, factoring is quite common in industries like the clothing industry.

In a factoring arrangement, first of all, the client makes a sale, delivers the products or services, and generates receivables. The factor (a third party who provides funds) buys the invoice and pays the client some face value at a discount. Actually, the factor pays more attention to the client’s customers who have the ability to pay than to the client’s financial status, because creditworthy customers can genuinely be the factor even if a company cannot qualify for a loan. Mostly, the factor is a company that will validate the invoice and notify the potential customer. These companies are known as factoring companies. Once the customer pays the complete payment to the factor, the factor will pay the client the remaining money by deducting the charges or fees.

Advantages of Invoice Factoring

Sometimes, a business might experience monetary limitations, particularly when a large portion of its clients has accepted their invoices and have not yet paid. For an organization to remain above water, it should get fast funding to assist with the regular running of the business.

• Fast funding – Whenever your organization needs funding immediately to make finance or buy materials for a task, factoring can be of help. This permits your business to take on new undertakings, take care of service bills, or do numerous different things that will assist your business to grow.
• Faster processing than bank loans – An invoice factoring company hardly takes 24–72 hours to process and also provides an advance payment to the organization. It checks customer’s credits and payment records to decide if they offer an advance payment. However, a bank takes more time and several other documents to process the same.
• Debt delegation – Here, one can give the complete responsibility of debt collection to the invoice factoring company for a particular business.
• Protection from loss – The factoring company will save your business from facing complete loss by providing potential customers to purchase your invoice.

Disadvantages of Invoice Factoring

• Long-term commitment – Many factoring companies generally provide a long-term agreement to sign at least for two years.
• Factoring Rates – Factoring companies can take higher fees if you have a bad record of debt payments.

While choosing a factoring company, you should be aware of some points like the application fee and transparency. You should make sure that they should not have any hidden fees and are capable to provide the payment within the mentioned time limit.

Factoring Business Market

Presently, a number of NBFCs and banks are financing MSMEs against receivables. Recently, Factoring Amendment Bill has been cleared in both of the Houses of Parliament. This will empower almost 9,000 NBFCs to take an interest in the calculating business sector rather than only seven at this point. The factoring market is needed for the economy as it responds to the demand and helps in continuing the cycles to run the business efficiently.    

About the Author(s)

     

Rosy Behera

Rosy Behera holds a bachelor’s degree in Electrical and Electronics Engineering and is currently working as a content writing professional. She loves to portray her thoughts and ideas via her command on words. Grabbing her audience’s attention with her creative write ups is one of her biggest assets. Apart from writing, she is a certified “Odisi” dancer and has done Gardharva in Drawing, Painting and Arts. She always explores new things through travel and is a big foodie.