Decision Criteria for Selecting a
Factor, Part I
Invoice Factoring offers growing businesses a quick, easy way
to finance unlimited growth by increasing cash flow and
working capital without incurring debt. However, like every
good thing, it’s vitally important to understand how accounts
receivables factoring really works, and how to avoid its
To grow and prosper, every business needs a lot of “green
energy” or money. However, a SunTrust Bank 2005 survey of 530
business owners found that because 69% relied on existing cash
flow or profits to fund their growth, these businesses failed
to realize their full potential.
Factoring accounts receivables, a practice dating back to
Roman times, is a proven way for small and sometimes larger
businesses to alleviate cash flow problems caused by delays in
receiving payments. Invoice Factoring, also known as Accounts
Receivable Funding, involves the purchase and sale of accounts
receivable (invoices) at a discount for immediate cash.
Unlike a loan, factoring involves no debt, no liabilities, no
personal guarantees, and no long-term commitments.
sounds great, doesn’t it, and it can be -- provided you:
The invoice factoring industry is completely unregulated with few
constraints on the people who work in the industry. Caveat emptor
(buyer beware) clearly applies in this situation.
This white paper will educate business owners about the potential
pitfalls of invoice factoring … and how to avoid them.
Factoring Pitfall #1 – Working with a factor who you don’t Know,
Like and Trust
When you enter into an agreement to factor your invoices, you are in
essence inviting a new partner into your business – one that you may
not know very well at all. Like any partnership, it’s better to be
involved with people with whom you share similar business and
personal goals and values. Otherwise, you may be engaged with people
that you don’t like, don’t want to know, and can’t trust but who
have much potential to harm your business and your customer
Successful users of invoice factoring take the time to check out the
credentials, the business practices and personal ethics of their
potential factoring partner, and thereby minimize the potential for
considerable frustration, unhappiness and financial hurt. Since you
are entering into a three-party deal that involves you, your
customers and the factoring company, taking enough time to carry out
appropriate “due diligence” is critical. Don’t be shy about asking
for customer references and then be sure to talk with 3-5 of the
factor’s customers. A good question to ask is, “Knowing what you now
know about Company X, would you use them again to factor your
invoices?” Listen carefully to the response, and you learn much
about your prospective business partner.
Factoring Accounts Receivables Pitfall #2 – Giving the factor too
much control over your business
Some factors insist on controlling all communications with your
customers concerning your invoices. This gives the factor too much
influence over how your customer ends up viewing your company. Most
larger companies today are accustomed to working with factoring
companies, but they don’t like to be badly treated in the process. A
factor’s behavior can put at risk your hard-won relationship with
In some instances, unethical factoring companies have delayed
payments to their clients, thereby causing financial strain and
jeopardizing the company. In another instance, a factoring company
even tried to gain ownership of its client’s business through
unsavory business practices.
Pitfall #3 – Agreeing to factor all invoices
Some factoring companies insist that all accounts be factored as a
way to generate extra fees, or that all of your accounts be run
through them even if they are not factored.
By acceding to this, you face the following possible consequences:
Ideally, you should work with a factoring company that offers you
flexibility on which invoices you want to factor.
Pitfall #4 – Paying a monthly minimum fee
Some factoring companies require that you pay them a specific
monthly minimum fee, regardless of the amount you invoice to
For example, if your monthly minimum amount is $50,000, and your
actual factored invoices amount to, say $35,000, you would end up
paying fees on $15,000 for which you receive no value. Or, if you
submit no invoices during the month for factoring, you still end up
paying the minimum monthly fee. This is a good deal for the factor,
but not for you.
To minimize your factoring fees, do not accept an agreement with a
minimum monthly fee component. Ensure that your factoring fee is
calculated on the actual amount of your factored invoices.
Financial Factoring Pitfall #5 – Accepting excessive clearing days
Clearing days, you might say … what are they?
Essentially, clearing days are those days a bank requires to clear a
check. A usual part of a factoring agreement, fees apply during a
clearing period. However, clearing periods can vary, and this is
what you watch for.
A usual clearing period is 3-7 days, sometimes as much as 10 days.
You should avoid anything longer than 5 days.
Some factors use the clearing days period as a way to extend the
factoring period into the next “per days period” so they can get
more money from you.
In your agreement, seek the fewest number of clearing days, since
the shorter the period, the fewer fees you pay. Further, you should
seek a factor that does not charge fees on clearing days and
terminates all fees the day payment is received from your customer.
Informational News Articles
Invoice Factoring Company: Best Practices, Part I
Selecting an Invoice Factoring Company:
Best Practices, Part II
Selecting an Invoice Factoring Company: Best
Practices, Part III
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