Today there are more factoring companies to choose from than ever before. Factoring rates, fees and agreement terms are extremely competitive. That should work to your advantage as a potential factoring customer. Still, there are several issues to consider when selecting a factoring company.
Here are seven important questions you should ask any factoring company before entering into an agreement:
What is your fee structure?
This can vary depending on your industry and the factoring company involved. Some factors only charge a flat factoring fee, which is a percentage of the total invoice value. Other factors charge additional fees that cover money transfers, software, collateral and other costs of doing business. Make sure the factoring company you work with is up-front and transparent with you about its fees.
What are your terms?
As a customer, you want as much flexibility in a factoring 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 non-recourse factoring?
With non-recourse factoring, the factoring company assumes more of the credit risk for the collection of the invoice. Recourse factoring means that you, the client, are ultimately responsible if the factor cannot collect on your customer invoices. Recourse factoring costs less than non-recourse. Having a customer default payment under a recourse agreement does not mean that you have to pay the debt out-of-pocket. The factoring company may withhold a portion of future cash advances or reserve payments, putting the money in an escrow account until the debt is settled.
It is to your advantage to find a factor that offers both recourse and non-recourse factoring, as some of your customers may be better candidates for recourse factoring than others. A factoring company that has a strong credit team can also help ensure that you are working with good customers. This relieves some of the pressure of “being on the hook” for bad debt.
How long have you been in business?
There are more factoring companies in the marketplace today than ever before. Many of them are recent start-ups that have very little industry experience. Before entering into a factoring agreement, research the factor’s history and its background providing financial services in your field.
Do you have the capital to grow with me?
One of the advantages that factoring has over traditional lending is that there is no limit to the level of financing. As your company grows, the funding of invoices should grow with you. Find out as much information as you can about a factoring company’s capital structure and client base. What’s the factoring volume of their largest client? What is a typical account size? Is there a limit to how many debtors the factoring company can take on? Factoring companies that have been in business and have served your industry for several years usually have greater capacity to finance your company as it grows.
What else can you do for me?
Factoring is more expensive than a conventional bank loan. Part of what makes that expense worthwhile is the back-office services that the factoring company provides. In addition to financing and collections, many factors also provide credit information and evaluation of companies in your industry. When shopping for factoring companies, make sure you find one that offers additional products and services that can help your company make good business decisions and grow.
How do we get started?
Unlike banks, factoring companies are not as concerned with your balance sheet before deciding to work with you. But they do have some criteria in selecting new clients. Make sure the factoring company explains to you up-front what it looks for in approving you as a client. Is it your personal credit score? Is it the credit ratings and payment histories of your customers? Often, your company wants to factor because it needs a quick injection of cash flow. Make sure the factoring company is clear with you on how many days it will take to review and process your application.