Step by Step overview of Factoring Finance | Debtor Finance | Invoice Factoring

A Step by Step Overview of Factoring Finance

Companies facing a cash-flow squeeze and slow-paying customers often sell their invoices or accounts receivable to specialized companies called factors. This is called Factoring Finance. Sometimes it is called Factoring Finance | Debtor Finance | Invoice Factoring or Receivables Finance. In this article, we will go through a step by step overview of factoring finance.

Companies that use factoring like it because they get money quickly. Rather than waiting the usual 30 or 60 days for payment. After sending an invoice to a factoring firm, a business can have money in its hands within 24 to 48 hours.

Some businesses use Factoring Finance | Debtor Finance | Invoice Factoring to get started. Banks always focus on a business’s creditworthiness and real estate assets in considering whether to make a loan. Factors look at the financial soundness of a business’s customers. As a result, business with scant credit history may be able to sell their invoices.

Billions of dollars in accounts receivable flow through factors each year. Many of them specialise in particular industries such as trucking, construction or health care. Some companies use factoring finance to meet cash-flow needs as a stop-gap measure.

Other businesses prefer factoring to banks, which often factoring businesses require less paperwork than Banks. The same applies other outside investors, who may want a piece of the business and dilute the owner’s equity.

The factor advances most of the invoice amount — usually 70% to 90% — after checking out the credit-worthiness of the invoiced customer. When the invoice is paid, the factor remits the balance, minus a transaction (or factoring) fee – this is called a rebate.

Lets break that down step by step.

Step 1:

The fundamental thing to remember is that funding is secured with the business owners debtors ledger.

So our risk is not with the business owners but with the customers business owner.

Risk Management strategies are employed to assess the risk of non-payment by the customer.

If there is a positive outcome, the customer is approved and the business owner is notified.    

Step 2:

The business owner invoices their customer for goods or services that must have been provided or supplied. The customer is now the business’ debtor and owes money to the business on a specific due date as per the agreed terms.  The due date and the total sum payable form part of the invoice.  

Step 3:

The factor then performs an Invoice Verification with the customer.   Verifying the invoice amount is accurate and that the customer agrees that the amount is due on the date stipulated.


Step 4:

Only after a successful verification does the factor pay the agreed percentage (anywhere between 70 to 90% of the invoice) to the business owner, holding the balance in reserve. The business owner now has access to funds that would otherwise be locked up in the invoice.

Step 5:

On or before the due date, the factor receives the payment from the customer.  

Step 6:

The balance on the invoice that was held back by the factoring agent initially is paid to the business owner minus less any fees charged by the factor.  This is called the rebate.

With this kind of small business funding, the business owner has much more flexibility to assist with the cash flow management needs of the business.

Spot factoring, what is it and how does it work?

What is Spot Factoring

A spot factoring deal – is just as it sounds the whole ledger can be factored or just a single invoice, in other words, “spot factoring”.

Spot factoring is priced for risk as there is nothing else to offset against if the customer doesn’t pay.

The process for approval, verification, and funding is the same as for a whole ledger.

Oversight and general conduct of the customer are monitored more closely for two reasons. The first is that there are no other invoices to off-set against in the event of non-payment of the invoice. Secondly, the size of these invoices is usually in the hundreds of thousands.

How to use the Spot Factoring facility

Using a facility that allows you to finance a single invoice, or a small group of them, has advantages over other solutions. Single invoice finance:

  1. Offers flexible funding solution so you only use the facility when you need it
  2. Is available to start-up business with limited trade history as it is the strength of the customer that the factor is concerned with not how long the business owner has been operating.
  3. Can provide the support needed for acquiring materials that enable the business owner to accept or bid on larger tenders and projects.
  4. Assists with being able to offer competitive trading terms such as 30 or 60 days to customers while still getting the benefit of immediate payment.
  5. As with all factoring facilities no real estate security is required

Credit-collection Services in Factoring and Invoice Factoring

Collecting Unpaid Invoices

Invoice factoring is not just a way for a small and medium-sized business to get access to funding at short notice. It has a number of other benefits to offer as well. It gives the business the ability to utilize its own assets to the maximum because it is the business’ receivables that are being used to generate funds. This type of small business funding assists the business owner with cash flow management. The business is able to avoid taking on additional debt in the form of loans. This is because it can access small business working capital provides other benefits that can assist in the day to day operation of a small business

A source of credit to the business

A business will sell its unpaid invoices to the Factor in return for a cash advance. The amount of the advance is a percentage of the approved invoice. As a general rule, the advance is not lower than 80% of the face value of the invoice.

The business is getting immediate access to funds that have not yet become due and payable simply by using Invoice Factoring.

The strength of the debtors (invoices) is what underpins the whole transaction.

The funding is provided at a discount and is immediately available.

Provided the debtors do not become delinquent and pay outside of terms then debtor finance is a great tool. It has the ability to not only assist with the growth of a business but also their ability to reliably meet other financial commitments.

Collection services

Risk management presents a constant and ongoing challenge to all financial institutions and credit providers.

There is a set of basic information that the factor assumes the business owner will know about the debtor. This is important to enable the verification process to be completed.

Once the invoice has been assigned to the factor, follow up with the debtor and tracking responses. It will verify the due date for payment. This is part of the factoring process.

This frees up the business owner to let them concentrate on other aspects of the business

If the debtor fails to make payment on time,  the factor will commence the collection process. This can include progressing it to legal action if required.

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3 key benefits of factoring

What is Invoice Factoring

Invoice factoring is a term used to describe the short term financing of unpaid invoices.  It is a financial transaction but not a loan. IN the next few minutes we hope to explain to you the benefits of factoring.

The survival of many businesses in the SME sector depends on their ability to access funds to free up cash flow.

A business will sell its unpaid invoices to the Factor in return for a cash advance.    At its core what underpins the transaction is the strength of the debtors (invoices).

What Can I Do with the Funds Raised

Using the unpaid invoices of the business, the owner can gain access to small business working capital without much difficulty and in time to meet the necessary expenses of the business.  For business owners who have not used this type of funding before the three main benefits of debtor, finance are listed below.

  1. Accessibility to Cash:    For a small or medium business access to this type of funding means they can participate more competitively with larger businesses in their sector. Often larger businesses are regarded as being more solid as they have access to cash reserves that enable them to adapt to the ebb and flow of the market quickly or to increase inventory or production at short notice.   The absence of or accessibility to capital can frustrate the ability of small businesses to react to changing market conditions in the same manner.
  2. Outsourcing collection: The nature of the debtor finance product is that if customers are paying ‘on time’ the business would not have a cash flow problem. Another important yet time and resource consuming task that can weaken a small business’ ability to stay responsive in the marketplace is invoice collection.  Chasing up overdue invoices can be a very onerous and protracted task and many small businesses simply lack the ability to dedicate human resources to it.  This only serves to diminish their ability to ensure that debtors pay on time.  Small business cannot afford to allow invoices to remain unpaid because this impacts its working capital availability. Factoring your invoices can simplify this problem as the factor takes over all your rights to pursue the customer for payment. This includes the right to take legal action.
  3. Debt avoidance: Small businesses are less likely to be able to absorb any downward movements in the economy and are often constrained by them.  This is due mainly to the size of the business and the unpredictability of their bottom-line. The options open to small businesses if they need cash to meet an emergency expense or if they lack funds to match their expansion plans or production increases are limited.  They look for lenders willing to make a loan to them. If the business is a new one, this can prove to be almost impossible.  The loan, even if available, may be a very expensive one that results in a huge drain on the business’ finances on a recurring basis. With factoring, this debt burden can be avoided completely because the asset being used is the business’ own invoice and cash is advanced against this asset so no repayment is required.

I hope the above has explained to yu some of the benefits of factoring

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