Business factoring is a reliable way for companies to maintain consistent cash flow to meet operational requirements without taking on debt. In the current U.S. economic environment, factoring is an effective way for business owners to mitigate the stress of maintaining current operations and possibly grow. In this article, determine if factoring may work for your business and the financial requirements to consider when applying for funding.
Factoring: What it is and how it works
Factoring is a type of financing in which one company buys another company’s accounts receivable, i.e., its invoices. When a seller sends its customer an invoice, the factoring company pays the seller between 70% and 85% of the invoice’s value immediately1. A factoring company offers your business cash in exchange for ownership of unpaid, outstanding invoices. The amount of cash advance you receive essentially depends on the credit of your customer and the type of industry you are in. The basic steps of factoring are:
- The business enters into an agreement with the factor to sell their receivables
- The business provides the factor with the invoices sent to the client-debtor
- Factor credit approves the client-debtor
- The factor advances a portion of the outstanding amount due from the client-debtor
- Once the invoice is paid, the factor pays the business the remainder collected minus the discount rate
Factoring becomes highly beneficial to your business as it provides fast access to cash, cash flow without taking on debt, checks the client’s credit, and relieves the stress of waiting for client-debtors to pay their invoices.
What Industries are a Good Fit for Factoring?
The core industries that use factoring are manufacturing, staffing, oilfield services, construction, wholesalers, distributors, engineering, industrial services and transportation2. With Houston being a leader in a few of these areas such as oilfield services, Stellar Bank offers the expertise and factoring these industry leaders need to successfully leverage this financing option. If you are a business owner in one of these areas, reach out to us today to discuss how a relationship with Stellar Bank can guide you through this economy.
Oilfield Services: Maintaining sufficient cash flow, being able to invest in equipment, and hiring qualified talent are pain points of the oilfield services industry. Access to quick capital helps maintain rapid growth in this industry.
Transportation, Freight and Logistics: Transportation costs of buying fuel, paying drivers, covering tolls, and providing insurance must be paid before freight delivery. Factoring helps this industry cover these up-front expenditures while providing cash reserves for additional growth of trucks and drivers.
Construction: The construction industry continues to see rapid growth in housing, medical and commercial facilities and more. This industry has long payment cycles that can easily put construction companies out of business in the current economic environment.
Manufacturing: Most manufacturers receive payment on delivery or on a set of terms. Factoring helps alleviate this burden and allow manufacturers to continue scaling at their desired pace, opposed to scaling as a reaction to their vendors terms.
Elements that make a business a good fit for factoring are:
- Start-ups that aren’t able to qualify for or receive traditional financing
- Rapid growth companies
- Companies that need capital and want to avoid debt
- Companies needing capital that don’t want to give up equity
- Emerging companies with limited access to capital
- Companies that have questionable earnings trends
- Companies with payroll tax problems
- Companies with cyclical or seasonal growth spikes
Why is Factoring More Favorable in the Current Economic Climate?
Currently, the U.S. is in late-cycle phases of economic growth with a moderate recession risk3. The U.S. economy is showing trends of a tight labor market, credit tightening, declining profit margins, and rising inventories. During economic downturns, customers tend to wait longer to pay their invoices; some may even let their invoices age out to collections. With economic uncertainty and unfavorable conditions, businesses need to accelerate cash flow more than ever.
Factoring helps business owners to:
- Avoid increases to long-term debt; there is no impact on a business’s balance sheet because a factoring finance option is not a loan
- Increase a business’s appeal to traditional lenders
- Increase a business’s credit standing with suppliers and save owners money
- Relieve stress: Business owners, now more than ever, need the financial tools to relieve stress and stay on track with their operations
Stellar Bank helps hundreds of businesses with their factoring needs. To hear more about the businesses we have helped fund and to see if you qualify for our simple application process, please reach out to your banker or stop by one of our banking centers.
Additional Factoring Resources:
Alternative Funding Solutions
APC Factoring Partner Guide
- What is factoring? Definition and examples – Market Business News
- Alternative Business Funding: What Are Factoring Loans? - Forbes.com
- Global growth slows as rates rise Fidelity.com