One of the most common statements I hear people make is that factoring is more expensive than a bank loan. Not only is this like comparing the old saying of apples to oranges but that is exactly the case.
To begin with if a company can qualify for adequate financing from a bank and that is the best financial option for that company then that is obviously what needs to be done so no need even arguing the mute point. If a company is unable to get adequate financing from a bank then let’s take a look at the difference in the two.
1st. Factoring is not debt financing, you do not borrow money like you would from a bank. A factoring company actually purchases the invoice from your company, so the invoice is an asset you are selling. These invoices are obviously purchased at a discount so with that in mind it should not be compared to an interest rate from a loan or line of credit.
As an example some people will take the factoring fee, we will use 3% on 30 days for an example. 3% a month X 12 is 36% a year. That is like saying to a company that offers 2% net 10 discounts for early pays. With this same comparison you have about 36 10 day periods in a year so with 2% net 10 X 36 you have 72% a year. So as you can see the formula of comparing a discount to an interest rate gives you the wrong formula.
2nd Turnaround time for approval for funding from a bank can be long and painful. The bank has to get approvals and the underwriting has many hoops you have to jump through. With factoring you can get an account open and receive funding in as little as a week and then on future invoices you can receive funding the same day. Plus if you bring on additional approved customers you get funding on them just as fast.
3rd A bank typically wants to see at least 2 years in business and also requires you to have additional collateral along with your invoices along with a personal guarantee. A factoring company can provide funding to start up companies as long as their customers are credit worthy and all that is required as collateral is the accounts receivable and some factoring companies do not require a personal guarantee.
4th A factoring company also offers additional services. Unlike a bank a factoring company has a day-in, day-out relationship with its clients. They are constantly monitoring the accounts receivable and collections. They offer credit screening for potential new customers for your company and they provide detail up to date aging reports to help you get a better handle on your receivables aging. A factoring company is continuously advancing new funds as well as collecting outstanding invoices and your credit availability continues to grow with your business with new accounts.
So in closing the real question is not factoring being more expensive than a bank loan, it is obvious now that the two cannot be compared so that leaves us with looking at the benefits of factoring vs. a bank loan.
With factoring you never have to worry about out growing your line of credit or burning through that loan and finding yourself with debt on the books and needing more working capital only to find the bank is max out on what they can allow. With factoring each time you bring on a new approve customer you have access to additional capital so by using a factoring service your credit line grows with your company.
Plus if you are unable to fulfill jobs or orders due to inadequate working capital and factoring offers you the cash flow for this I can assure you the factoring discount is far less that it would be for you to miss out on that business entirely because of inadequate funding.
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