A quick guide to factoring

What is factoring and how much does it cost? Growing Business looks at some of the pros and cons

The gap between an invoice being raised and customers sending back a cheque can often seem like a deep and dangerous black hole.

Debt factoring provides a means to borrow against invoices, and thus secure predictable cashflow.

What is factoring?

Debt factoring (aka invoice factoring) works like this. Under normal circumstances, when you send an invoice to a client you can expect to wait for anything between a week or two and a few months before payment arrives.

Indeed, even ignoring the problem of late payment, credit terms that allow the client three months to pay are by no means unusual. For suppliers, which have their own bills and employees to pay, this can cause real cashflow problems.

Factoring provides a solution. With a debt factoring facility in place, a lender will advance you an agreed percentage of the money owed on invoices to specified customers as soon as they are raised. In other words, you won’t have to wait 30, 60 or 90 days for the money to arrive in your account.

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The cost of factoring

With debt factoring you are essentially borrowing money until an invoice is paid. Interest rates range from 1.5% to 3.0% but there will also be a management fee based on a percentage of turnovers.

Expect to pay between 0.75% and 3.0%. You can reduce the cost by borrowing against part of the value of an invoice – say 50% or 75%.

Factoring pros and cons

In addition to freeing up cash, factors take over all or part of your credit control function. In other words, they chase debtors on your behalf.

The downside is that those customers may wonder why a lender is sending them reminders rather than you. In the past debt or invoice factoring has been associated with companies in trouble, but that is changing.

What to do next?

In order to qualify for debt factoring, it may help to have a good spread of clients and a healthy order book, although “many factoring companies will fund single debtors”, points out Ian Johnston of Factoring Solutions. Typically banks will also want evidence that you’ve already done work and issued invoices.

Major players include the high street banks, plus specialists such as Bibby Financial Services, Invoice Factoring, Alex Lawrie Factoring, and Close Invoice Factoring.

You can also find a list of lenders and search the database of the industry body the Asset Based Finance Association at www.factors.org.uk.

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