Six Questions You Should Ask a Factoring Company

How to pick a reliable business partner for your company.

If your business has ever needed a quick boost to its cash flow, chances are that you have considered factoring as a funding option.

Factoring is a form of alternative financing in which a business sells its invoices to a third-party company called a “factor.” The factor advances money on the invoices—usually within a day—then collects payment from the customers. The speed of factoring makes it an effective way for companies to build up working capital. Instead of waiting 30 to 60 days on customer payments, they can receive most of the cash in less than 24 hours.

Today, there are more factoring providers to choose from than ever before. Some factors are excellent business partners, while others lag in areas like customer service, technology and record-keeping. Factoring rates are extremely competitive, but are only part of the equation when selecting the right factor for your business.

Here are six questions you should ask to help ensure you work with a factor that will be a reliable business partner for your company:

What Are Your Fees and Terms?

In addition to a flat factoring fee, which is a percentage of a total invoice value, some factors charge additional or “hidden” fees. These charges cover things like money transfers, software transactions, collateral and other costs of doing business. Obviously, these fees can quickly add up, so it is important to ask the factor up front about the fee structure and how much is charged for each transaction.

The terms and lengths of factoring agreements can also vary greatly from one provider to the next. As a client, you want as much flexibility in the agreement as possible. A long-term contract with a factoring company can be desirable if it includes a price break or flexible rates. Many factoring companies will adjust their rates based on increased factoring volume or competitive offers from other factors. The industry standard for most factoring agreements is a one-year contract. With most factors, that contract will automatically renew unless you give the company a 60- or 90-day notice.

Do You Offer Both Recourse and Nonrecourse Factoring?

Recourse factoring means that you, the client, are ultimately responsible for the invoice value if the factor cannot collect payment from one of your customers. With nonrecourse factoring, the factor assumes more of the credit risk when collecting on an invoice.

Recourse factoring typically costs less than nonrecourse, but it is ideal to work with a factor that offers both services. It can be to your advantage to designate different customer receivables for recourse and nonrecourse factoring, depending on a customer’s credit rating and risk of nonpayment.

What Other Services Do You Provide?

A good factoring company not only funds invoices within a day, it provides back-office support that can save clients time, money and resources. When talking with a factor, ask for specifics on the kinds of services it provides. What is the factor’s process for customer collections and how diligent is it in pursuing payment? Does the factor provide other perks like free credit checks on existing and new customers? Ideally, the factor can act as an extension of your accounting department, helping you save on overhead and allowing you to spend more time on expanding your business.

Can Your Funding Match My Company’s Growth?

One advantage of factoring over a traditional line of credit is that the funding through factoring scales up as your volume of receivables increases. That can only happen, however, if the factor has the financial capacity to match your company’s growth. Before entering into an agreement with a factor, do some research on how long the provider has been in business and the kinds of clients it serves. What is the factoring volume of the largest client? What is a typical account size, and is there a limit to how many debtors the factoring company can take on? Finding out as much as you can about a factor’s capital structure and client base can provide assurance that the financing will meet your company’s needs.

How Do You Process Invoices?

The technological capabilities of different factoring companies can vary greatly. Some factors have online software that allows for the uploading of digital paperwork and accurate reporting on your account transactions. Other factors require the mailing or delivery of original invoices and documents.

How a factor processes receivables goes a long way in determining how competent and effective the provider is in collecting payment from your customers. Before signing a factoring agreement, make sure you understand and are comfortable with how the factor handles invoices, and the visibility that you will have to transactions in your account.

How Do You Treat Your Customers?

The quality of customer service can be a mixed bag in the factoring industry. Look for a provider that will set your business up with a personal account representative who can answer all your questions and help with day-to-day funding. This single point-of-contact is especially critical during the early weeks of your factoring relationship.