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Factoring Helps B2B Firms Turn Invoices into Cash

Is your small business experiencing cash flow problems due to rapid growth, slower paying customers or the inability to secure traditional bank financing such as a line of credit? Factoring, also known as receivables financing, may be the solution.

Factoring works by turning your customer invoices into cash payments. Here’s how it works: You invoice a customer like you normally would. Your factoring company then advances you the majority of the invoice. When the customer pays the invoice, you receive the balance of the invoice minus a discount fee.

Factoring is for businesses that sell to other businesses. It requires that your customers are creditworthy and will pay your invoices according to your terms. If that’s how your business operates, factoring can be a good option.

Here are six specific situations where businesses often find it difficult to secure a traditional bank loan or line of credit to meet their cash flow needs. According to QC Capital Solutions, these are situations where factoring fits especially well with improving cash flow and allowing a business to take care of business.

  1. The business has very little equity. With little or no equity capital, your best asset is your customers and receivables that keep the business running. Factoring helps leverage your best asset and ensure you get paid when the work is done, not a month or two later.
  2. The business lacks credit history. You may be in good standing with your bank, but without a credit history the ability to secure a loan is next to impossible. Factoring focuses on your customers and their ability to pay, allowing you to build a stronger credit profile without adding more debt.
  3. The business has few assets for collateral. With few assets, a business can find it difficult to get a line of credit from their business bank. That’s why factoring can be an attractive way to finance. For example, the owners of a small business had to use personal credit, home equity and pledge a vintage car to secure a bank line of credit. By switching to factoring invoices, the business was able to drive down their cost of goods and pay down start-up costs associated with equipment and technology, not to mention qualify for credit through their bank.
  4. The business is newer and lacks a track record. Every successful business was new at some point. If your business lacks a track record, you know how hard it is to get financing. Factoring, on the other hand, is based on current invoices. To illustrate, a newer consulting business wanted to branch out. A new contract with a big client made growth possible, but without cash reserves it was nearly impossible. By factoring his big client invoices, the consulting business was able to hire two junior consultants and purchase start-up equipment.
  5. The business is in growth mode. Without equity capital or access to funding, a small business can experience growing pains. For example, a security company based in Kansas City was thriving providing security for residential and commercial properties. Landing a much bigger corporate customer meant hiring more security guards. By factoring, the security company had the cash to make payroll for the additional guards even though the invoice wasn’t paid for 35 days. Factoring produced an influx of cash the day after invoicing, so the business could pay its employees and expand operations.
  6. The business is seasonal. At certain times of the year, your receivables are flush but your business is cash poor. Avoid the cash crunch with factoring. It turns your receivables into cash, so your business can focus on customers, employees, commitments and opportunities.

When Factoring Doesn’t Add Up

We’ve outlined the six situations where factoring fits perfectly. Now let’s turn to two examples where factoring doesn’t fit.

Your small business cannot factor old invoices. Factoring is not a collection service. If you need help collecting on past due invoices, that’s the business of a collection agency. Factoring applies to high-quality receivables. You know the invoice will be paid. It just takes time. Factoring speeds up the process.

Another example where factoring doesn’t make sense is when a business has pledged all assets to other lenders, including accounts receivable. In some instances, the factor and the bank can collaborate, resulting in some invoices being factored. This gives the business access to cash to continue operating and meeting its commitments.

Is Factoring Right For Your Small Business?

Factoring, or receivables financing, is greatly underutilized as a cash flow management tool. Factoring can work for your small business if you sell to other businesses and produce invoices that are paid over time. With factoring, those invoices get paid almost instantly.

By using factoring to process your invoices, your small business can use the accelerated cash flow to meet payroll, expand operations or invest in whatever helps your business grow and prosper.