Invoice Factoring for Immediate and Steady Cash Flow

Invoice Factoring for Immediate and Steady Cash Flow

Invoice factoring is a process by which a small company can improve immediate cash flow that otherwise could take weeks to arrive. There are several reasons for entering into invoice factoring, including a method of collecting from clients who are slow to pay. Take a look at how invoice factoring works, along with some of the pros and cons.

Why Does Factoring Work?

Company A provides cleaning services to several clients, including some larger business offices. Typically, these larger businesses call in the cleaning service no more than once or twice each month. When Company A finishes the cleaning project, invoices are sent out to these larger businesses with a note that payment is expected within thirty days. And it's usually thirty days later that the business pays.

While Company A knows that these businesses are likely to pay the outstanding invoices every month, the fact remains that the company is a small business and depends on regular cash flow to buy supplies, pay employees and meet company bills such as insurance on the cleaning van.

But if the managers of Company A are good business managers, shouldn't the company be able to withstand the thirty-day wait? In a perfect world, this is true. Unfortunately, Company A is like all small businesses. There are all kinds of minor issues that can arise to cause a money crunch.

Ideally, the company will be able wait for clients to pay invoices directly, but the reality is that small and medium-sized businesses often deal with the need for faster cash flow. This is especially true with newer companies and those with high maintenance costs.

Invoice Factoring

Invoice factoring works like this. You start by choosing an invoice factoring lender. Once you're approved, you'll create invoices for each job you complete, just as you would if you were directly invoicing the customer. Then you send the invoices along with supporting documentation to the factoring company. Supporting documentation is usually something that verifies that you did indeed have authorization to perform the work and that the customer does owe you the money. It might be signed delivery confirmations or signed work agreements. The point is that the factoring company will likely require something to prove that the customer has agreed to pay.

Next you send the entire package off to the factoring company. Once the account is established, you'll usually be able to collect payment for those invoices within a day or two. That doesn't mean that the factoring company is going to pay you the full amount of the face value of the invoices.

Depending on the deal you've arranged, you may be getting 70, 80 or 90 percent of the face value. Don't worry – you aren't selling the invoices for only a fraction of their worth. You'll likely get some additional money once the invoice has been collected!

That also doesn't mean that the process is free. Some factoring companies charge a flat rate of three to seven percent, while others charge a revolving rate depending on how long it takes for them to collect.