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Factoring Financing: How to grow your business without debt or loans

Written by: Marco Terry

What is factoring?

Accounts receivable financing, also known as factoring, is a powerful financial tool that has fueled the growth and success of a number of companies. Factoring enables companies to capitalize on their unpaid receivables by selling them to a factoring company for immediate payment. With factoring, companies immediately get paid for their invoiced work from the factoring finance company, while the factoring company waits to be paid by the customers. Factoring strengthens a business' cash position by shortening the time to get invoices paid to 48 hours and providing the needed funds to meet current expenses and target new opportunities.

Factoring Benefits

As opposed to loans and lines of credit that require that the client have tangible assets and strong financials, factoring relies more heavily on the financial strength of the clients' customer. This is a critical feature, since many new and small businesses do not meet the financial criteria of traditional lending institutions. However, many small businesses have a roster of financially strong customers that can be leveraged. Factoring empowers businesses to capitalize on their customer list, and provides them with a tool to transform outstanding receivables into immediate cash, without generating debt. Since Factoring is not a loan, it is an ideal financial product for the following:

o New and emerging businesses including small and home businesses, consultants and solo-preneurs. o Businesses with financially strong customers o Businesses that are preparing to grow significantly o Business with intangible assets (e.g. consultants) o Businesses that do not want to take a loan

An additional benefit of factoring is that the factor usually assumes part of the clients' credit risk for the customer. This means that if the customer becomes financially insolvent due to bankruptcy and does not pay the invoice, the factor will assume the loss. This is a critical service for small companies who may not be able to afford the bankruptcy of a customer.


The costs of a factoring transaction - also known as the discount - vary based on a number of variables such as the financial strength of the customer and the amount being factored. Generally, the discount is a percentage of the invoice's face value that increases with time until the invoice gets paid. Small businesses, those that have between $20,000 and $300,000 in yearly revenues, can expect to pay a discount rate of about 2% for every ten (10) days that the invoice remains unpaid. Businesses with factorable revenues in excess of $300,000 can expect lower discount rates.

Factoring in Action: BSP, Inc. Case Study

Business Services and Products, Inc. (BSP, Inc.) is a small fictional company, which provides business consulting and equipment to local companies. It has $300,000 of annual revenues and during the past year BSP Inc. has enjoyed significant sales growth. Although most business owners would be very happy to manage such a company, Jane Sullivan, BSP Inc's president, is very worried about her company's financial position.

Most of BSP Inc.'s customers are large companies with a good reputation for always paying their invoices. However they always take between 30 to 45 days to pay them. BSP Inc., however, needs to pay their employees every two weeks and their vendors every four weeks. This discrepancy between the time that customers pay their bills and the time BSP Inc. needs to pay their employees and vendors has created cash flow problems in the past. Furthermore, these cash flow problems have already caused Jane to delay payroll twice this year and have placed her trade (vendor) credit in jeopardy multiple times. This has also caused her to pass on a number of significant business opportunities because she was unsure of the company's financial ability to hire and pay for additional staffers. Unfortunately, BSP Inc. did not have a large enough financial cushion in the bank to afford paying employees while waiting for 45 days new clients to pay their invoices.

The following table provides an overview of BSP, Inc's current financial position.

Business Services and Products, Inc (w/o financing)

Yearly sales $300,000 Lost new sales opportunities Unknown Total Sales $300,000

Variable Costs(60% of Sales) $180,000 Fixed Costs(Rent, phones, etc) $20,000 Total Costs $200,000

Profit (Sales - Costs) $100,000

Although the company's prospects appear great, Jane may have to stall her company's growth until she builds a large enough cash cushion at the bank to finance her company's growth.

After careful consideration, Jane decided that a factoring line of working capital could help strengthen her company's financial position. Furthermore, factoring her invoices would enable BSP Inc. to take on new customers and continue growing, knowing that she could capitalize on her slow paying customers. BSP Inc.'s financing agreement will provide the company with an advance of 70% of her invoiced services. This means that the company can get 70% of the face value of the factored invoices within 24 to 48 hours of submitting them to the factor. The remaining 30% of the funds, less the factoring fees, will be quickly rebated as soon as the customer pays their invoice.

This line of working capital strengthened the company's financial position and bank account, enabling Jane to pay for new employees to service new contracts. Jane also decided to use the extra capital to pay her vendors early, obtaining quick payment discounts and helping to reduce the cost of factoring.

BSP Inc. customers pay their invoices within 30 days of receipt. The discount (factoring fee) for these invoices is 6%. Every time an invoice is paid, the factor rebates BSP Inc. the remaining 30% that was not advanced less the factoring fee. This means that once the transaction is completed, the factor rebates 24% (30% - 6%) to BSP Inc.

Thanks to the factoring line of working capital, Jane was also to secure an additional $120,000 worth of business, bringing her annual revenues to $420,000. The following table shows BSP Inc.'s financial position a year after using factoring.

Business Services and Products (with factoring)

Existing Sales $300,000 New Sales $120,000 (factored) Total Sales $420,000 Variable Costs (60% of Sales) $252,000 Fixed Costs (Rent, phones, etc.) $20,000 Cost of Factoring (6% of $120,000) $7,200 Total Costs $279,200 Net Profit (Sales - Costs) $140,800

As can be seen from the above table, factoring helped BSP Inc. increase profits substantially from $100,000 to $140,800 - a 40% increase. It placed BSP Inc. on a more stable financial footing, priming it for growth. Furthermore, the cost impact of factoring on the bottom line was minimal, as it was easily absorbed by the additional business, showing that factoring was paid for directly by the growth.
About the Author

Marco Terry is president of Commercial Capital, LLC is a leading commercial finance company that specializes in providing working capital through factoring to small businesses. For more information or a free consultation, please visit our web sites at http://www.ccapital.net or http://factoring.qlfs.com or call us at (786) 206 4722.

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