One of the biggest challenges that small businesses are currently experiencing is the management of cash flow. It is never easy to correctly predict when your customers will pay. However, there are frequently payments to be made that can be tough to anticipate. Small business owners spend most of their time dealing with cash flows and making sure that they’re in a position to meet all their financial requirements.
Many small businesses have observed that invoice factoring or the process of selling their invoices or accounts receivable is a good way to convert sales into cash. With invoice factoring program, small businesses can improve their liquidity and simultaneously avoid the problem of collecting amounts that are due from their customers.
How Does Invoice Factoring Work?
When a small business makes a credit sale, payment is commonly due inside a pre-determined time, typically 30, 60 or 90 days. Generally, the seller would have to wait for a month or more to acquire cash against the sale. However a small business may additionally have an immediate requirement for funding.
In this type of setting, a factor could purchase the invoice and pay the seller instantly. In the normal way, the amount paid would be approximately 80% of the invoice value. In the end, on the due date, the factor would collect the full amount from the buyer. At present, the factoring firm would pay the remaining 20% amount of the invoice to the seller.
Who Should Use Invoice Factoring?
There are some categories of businesses that cannot apply for invoice factoring services. Any business that sells at a retail level will not be able to take advantage of this type of business financing because the factoring requires credit sale. Small businesses with good credit ratings also normally do not use this way of raising funds. They are able to get access to finance at rates that effectively cost much less than what a factor charges.
Invoice factoring is extensively used by businesses that have high volumes of business-to-business sales on credit. Significantly, invoice factoring services are not based on the credit score of the corporation that is selling its invoices. Alternatively, the score of the consumer is vital. This permits new businesses with bad credit scores to get cash using invoice factoring services.
How Invoice Factoring Offers Great Convenience?
Another purpose that factoring has got wonderful reputation with small businesses is the convenience with which funds are made available to sellers of the services and products. A business can get cash in its account within 24 hours of delivering the invoice to the factor. Moreover, there is little to no office work involved and the seller does not need to worry about staffing its credit and collections department as this work is managed by the factoring firm.
Some Safety Measures
Even though invoice factoring can offer more benefits to a small business, it is prudent to take a few simple precautions before choosing which factoring firm to opt. In case your small business sells products on a returnable basis, keep away from using factoring. Figuring out the difficulties that result from the annulment of an invoice for products that have been returned can be very hard.
Understand the penalties and charges in your agreement with the factoring firm. Most factoring firms charge a processing fee and a factoring fee. The processing fee of factoring is a percentage of the invoice value and is connected to the credit duration after which the buyer will pay. The factoring charges are levied for delays in payments by your customer to the factor.
While factoring gives wonderful expediency, it can turn out to be an expensive source of funding. A little research on the terms and rates of invoice factoring arrangement can save you a lot of time and money.