Questions To Ask When Considering Factoring

  1. What is factoring? It is an arrangement between a factoring company and a business whereby the factor provides between 75% and 90% cash available against the unpaid invoices of a business.  It also relieves the burden of routine tasks such as sales ledger management, credit control and credit checking.
  2. How can it help my business? Factoring     can create immediate extra working capital, by advancing cash either the same or the following     day against invoices it receives.  It also allows the client to concentrate on sales and production functions as the factor takes care of the credit control process.
  3. Why would I need factoring? If your business has inappropriate or inadequate financial facilities, a rapidly growing order book or suffers from late payment from debtors, factoring could meet your cashflow requirements.
  4. What is the difference between invoice discounting and factoring? Both facilities provide immediate cash against invoices.  Invoice discounting is generally a confidential facility where the client continues to run its own sales ledger.  A factoring facility provides a full sales ledger and credit control service.
  5. What is the difference between recourse and non-recourse factoring? Factoring clients can protect themselves against bad debts with a non-recourse factoring arrangement.  The factor will cover the client for bad debt losses up to an agreed limit for each customer.  With recourse factoring any bad debt is the responsibility of the client.  Naturally there is an additional cost to the client for non-recourse factoring.
  6. Are any types of businesses unsuitable for factoring? Yes.  Factoring can be used for a wide range of businesses offering goods or services on credit terms.  However, some types of businesses such as those involved in stage payments or long term contracts, as in the building industry, are unsuitable for factoring.
  7. What criteria must my business satisfy to be funded by factoring? Factoring companies will require a minimum turnover of F-50k per annum but there is usually no upper limit.  Start up businesses will be considered if they have a satisfactory business plan.
  8. What security is required? Generally a factoring agreement between the client and the factor covering purchase of debts by the factor, in addition to personal guarantees/performance warranties is all that will be required.  Occasionally a debenture over book debts or guarantees from associate/parent companies will be necessary.
  9. Can I retain my banking facilities? Yes.  Factoring does not disturb an existing banking relationship.  However, it is likely that any existing overdraft facility will be reduced on the commencement of a factoring relationship but the reduction will be more than compensated by the additional cash made available against invoices by the factor.
  10. What about the relationship I have with my customers? While the factoring company will be in direct contact with your customers, they may welcome your continued involvement in the collection process.  In addition, a factoring facility enables the client to enter into additional sales contracts with far more confidence.
  11. How can I keep up to date with daily changes on my sales ledger? Daily transactions are advised on paper and some factors provide a direct modem link between the factoring company and the client who can view their own sales ledger movements as they happen.  Any disputes are also notified to clients immediately.
  12. How much is factoring likely to cost me? Typically the charges will be in the range of: Service Charge: 0.4% – 3.0% of turnover Funding Charge: 1.75% – 3.0% over Base Rate.  A business turning over Elm with 50 debtors and 1000 invoices per annum would expect to have a factoring service fee of well under 1.0% Service fee charging will depend upon the workload on the sales ledger.
  13. Can you factor your exports? Yes.  The factoring company can collect your export debt whether they are invoiced in sterling or local currency.  Most factors, often using factoring companies in the country of import, have the ability to collect the debt in the local language of the debtor and understand the collection process and legal system for collecting debts.  An additional charge is normally applicable on export debts.
  14. What benefits will factoring provide for the future prosperity of my business? Provides immediate working capital, helps to solve cashflow problems, provides headroom for growth and frees up valuable management time to enable a business to maximise its full potential and enhances ownership value.
  15. Are there many providers of factoring services? Yes. Well over 40.
  16. How do I choose? Have a short list covering the following topics: Experience; financial strength; speed of payment and processing; attitude towards client; involvement in collections; flexibility of computer system; ability to provide computer link; export handling; charges.
  17. If you would like to know more about factoring please contact us
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Factoring Financial Package For Growing Businesses

Domestic Factoring

This frees the funds locked up in sales invoices.  A client can typically raise up to 85% of the value of its unpaid invoices within 48 hours.  The balance is available, less a small administration charge, when the client’s customer pays.

A dedicated sales ledger and credit management service is also provided.  Working to our client’s instructions we collect invoice payment but ensure good customer relationships are maintained.

Benefits – The business gains access to an on-going source of funds that is linked directly to sales and so a smooth cash flow is assured.  It can improve profitability as the business can pay suppliers earlier, buy in larger quantities and also take advantage of discounts that are available.

Businesses using a factoring facility save costs on staff, postage, stationery, telephone calls and, most importantly, valuable management time can be used more productively.

Invoice Discounting

A finance-only service that is designed for businesses with a typical turnover of at least £100,000 who wish to run their own sales ledger and credit management.

The facility turns unpaid sales invoices into an immediate source of working capital confidentially, neither customers or suppliers will be aware of the financial arrangement.

Benefits – The facility provides a flexible source of finance that automatically expands with sales.  It allows the business to retain full control of its sales ledger and customer contact.  The charges are lower than those for a factoring service.

What are the costs?

There are two charges just like a bank – a finance charge and also a service fee.

The finance charge for the Factoring Agent’s services is typically between 2-3% above base rate, on funds actually used.  The money is drawn down at the clients discretion.  Our charge is extremely competitive compared with other sources of finance, and is far more flexible.

Factoring – the service fee, for running with the sales ledger and credit management service ranges from 0.5 – 3% of the invoice turnover handled – the average fee is typically around 1.2%.  A business with a turnover of £500k would be paying for example around £6K a year, this compares very favourably with the cost of running a sales ledger in-house.

Invoice Discounting – the service fees range from 0.1 -1% of invoice turnover.  The facility averages around 0.25% of invoice value.

How quickly can a facility be set up and is there a minimum period? To minimise the fuss and formalities of setting up both factoring and invoice discounting facilities, and they can be arrange din a matter of a few working days when timing is critical.  The agreement is normally based on a minimum period of one year with 3 month’s notice of termination required from either party.

What kind of business can take advantage of this method of tailored finance? Sole Traders, Partnerships and Limited Companies – they all sell their product or service to other businesses who pay on credit terms.  Clients are mainly in the manufacturing, distribution and service industries.  They all need to make the most of the value of their unpaid invoices to finance growth, but they still want to be firmly in control of their own businesses.

The following information, and the criteria required for a Factoring Invoice Discounting facility, may be helpful in determining whether you are suitable to take advantage of a Factoring Agent’s services.

Typical Positive Criteria

A business which:

  • Is, or may be, held back through lack of cash flow
  • Needs professional sales ledger administration and credit control support
  • Is well managed, has a reasonable spread of customers, and offers a quality product or service that is mainly sold on credit terms
  • Is capable of administering its own sales ledger, but where traditional bank lending criteria will not allow for increased facilities to be offered

Typical Negative Criteria

A business which:

  •  Is showing serious losses and a deteriorating net worth
  • Is in the building industry and is involved in contract and stage-payment invoicing
  • Is producing garments for the “cheaper end” of the market
  • Is in the haulage industry – usually confined to moving trailers and containers
  • Is a freight forwarder
  • Derives turnover from advertising in “freesheet” journals/newspapers
  • Sells principally to members of the public
  • Has a large quantity of disputed invoices and a high level of credit notes
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Types of Invoice Finance

The main services are described below using ‘traditional’ factoring industry terminology which the majority of factors still use, and in any event, will all recognise. It should be noted that services may differ slightly between factors

 Services provided by factors are many and varied. The basic ingredients for these services are as follows:

  •  with or without bad debt protection (recourse or non-recourse);
  • with or without disclosure to customers (non-confidential or confidential);
  • where collection of debts is undertaken by the factor or by the client on behalf of the factor;
  • agreements which provide for the assignment of all debts as they arise (whole turnover) or which provide  for each debt to be offered to the factor .

The situation is further complicated by inconsistency in the labelling used by factors for their various types of services.

 THE FULL SERVICE

Probably the most common form of factoring (in terms of client numbers) is the ‘full service’ arrangement whereby the factor, as part of a continuous cycle, agrees to purchase the invoices of the client as they arise in the normal course of trading. In addition to purchasing the debts, the factor will also administer and control the client’s sales ledger and collect due debts from the client’s customers. The factor will also provide regular and detailed documentation detailing receipt of invoices from the client, advances, payments by the customer, and other reports relating to sales ledger activity.

There are basically two types of full service arrangement:

  1.  Recourse – whereby the factor does not provide protection against bad debts. In the event of a bad debt (or possibly before, depending on the age of the debt) the factor will recover from the client’s account moneys advanced against the debt.
  2. Non-recourse – whereby the factor absorbs losses incurred by a customer’s inability to pay. Also known as ‘bad debt protection’. The factor will usually set credit limits for customers and sometimes expect the client to absorb some of any loss.

The smaller independent factors, whilst not always offering non-recourse arrangements,

AGENCY FACTORING

This is sometimes known as bulk factoring. Here, the arrangement still requires that the debtors be informed that all payments go to the factor but the client takes responsibility for the collection of debts, effectively acting as agent for the factor.

The arrangement is usually with full recourse and is purely for financing the trade credit requirements of the client’s debtors. The service is similar to invoice discounting and is appropriate where the client’s sales ledger operation is well managed and there is a large number of, usually small, accounts.

Often the client would either not be well established and/or too small for an invoice discounting arrangement, or where full factoring would be prohibitively expensive because of a large number of low value debts.

 INVOICE DISCOUNTING

Invoice discounting is provided for clients requiring finance but not sales ledger administration or credit protection. The service is an increasingly popular choice among larger businesses (typically of turnover £400k). The client is not required to notify his debtors to pay direct to the factor (hence it is sometimes known as ‘confidential factoring’) and the debts are normally subject to full recourse. This is a purely financial service whereby the client maintains the sales ledger and collects from debtors on behalf of the factor to whom the debts have been assigned. The client, on collection of debts, pays the proceeds into the factor’s bank account. This form of factoring is more often provided by the larger factoring companies because of the greater sums involved.

 INTERNATIONAL FACTORING

Some factors will accept the purchase of debts for goods or services to foreign customers. In this situation the factor will usually employ a correspondent in the country of the importer to manage the collection and cover the credit risk.

FACTORING VARIANTS

There are a number of other forms of receivables finance services available which are sometimes referred to as factoring. Most are slight variations of the main services above, while others are a combination of receivables finance and other forms of asset finance.

ASSET BASED LENDING

Asset based lending is a form of funding which operates in a similar manner to factoring. However, in addition to funding against trade debts, other assets can be taken into consideration such as stock and property. This variant of factoring was developed in the US and has begun to be used in the UK in the last five years. Firms that offer this type of service avoid use of the term ‘factoring’.

Because other assets apart from trade debts are taken into consideration, the amount of funding available is often increased. As such, factors offering this service often advertise 100% or more funding against debtors.

MERCHANT TRADE FINANCE

Strictly speaking this is not factoring (by traditional definitions), although it is a form of debtor finance. Its operation is similar to that of factoring.

In merchant trade finance, the client sells his product to the merchant trader who then sells it to the client’s customer. The client at the same time delivers the product to the customer, effectively acting as agent for the merchant trader. The merchant trader pays the client up to 80% of the invoice value and the balance less charges on payment by the customer.

Although generally more expensive than factoring, merchant trading does not usually require that all of the client’s invoices are sold. Another advantage is that it does not affect any existing charge over book debts, which in the case of factoring would normally have to be waived in favour of the factor.

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Factoring Survey

Should the business appear suitable, a Company representative will arrange a meeting at the prospective client’s premises to briefly explain the service and probably give an indication of cost. If both parties are agreeable, the representative will then arrange for a survey to be carried out. The purpose of the survey is to further establish the suitability of the business for Factoring. It will take the form of an analysis of the prospect’s sales ledger, purchase ledger, cashbook, and financial accounts together with the general mode of operation of the business.

The Company will look for aspects of the business which may affect their title to debts, or the ability to collect payment from the prospective client’s customers should the arrangement proceed.

A company, which might initially seem to be an ideal Factoring prospect, may for example be selling on a sale or return basis, which would disqualify it from consideration. Further areas of concern to Company would be the selling of goods to an associate business or where contra arrangements exist.

The Company will also ensure that the prospective client has good title to products being sold and that there are no retention of title clauses in the conditions of sale of its suppliers. Once the survey has been successfully completed, the Company will calculate the cost to the client of the proposed service and determine the funding structure of the deal.

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Client Suitability for Factoring

Client Suitability: Bankers, accountants, or other financial advisors will usually introduce a prospective client. There are also a small number of specialist independent agents who solely concentrate on introducing clients to Factors on a commission basis. The Company will pay commission to introducers in order to generate business. Certain types of businesses are not suitable for Factoring. Generally these are: businesses involved in construction, especially where stage payments are made; businesses that sell on a sale or return basis; where perishable goods are sold; where sales are to the general public; where the goods or services are of a complex nature and there may be a high level of rejection or after sales service required.

The Company will also wish to see a good spread of debtors on the sales ledger. The Company will impose a “Concentration Limit” which will effectively restrict the level of funds available where one debtor exceeds a pre-agreed percentage of the overall ledger. Credit terms should be normal for the industry sector.

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Advantages of Factoring

In addition to the key benefit of accelerated cash flow, there are several other advantages to Factoring. Customer relations can be improved on the basis the responsibility for collection rests with the Factor, thereby relieving the client from the need to pressure its customers for payment of overdue accounts.

When customers are aware that a Factor is involved, they may even pay their bills more promptly. Since the Factor may also be handling accounts for several other of their suppliers, customers will be careful not to jeopardise their credit rating, as non-payment to one supplier may immediately damage their rating with others.

Factoring may even save a company money. Many firms are not able to duplicate the services offered by a Factor on their own for the same cost. Credit investigations, collection of overdue accounts, record keeping, and all related accounts receivable costs may be significantly higher if a company uses its own credit department or an outside collection agency. Outsourcing credit and collection problems enables a company to concentrate on its core competencies. This in itself could eventually offset the commission paid to the Factoring, while avoiding all of the collection headaches.

Factoring can also improve a company’s financial ratios. When accounts receivable are sold, they no longer have to be carried on the balance sheet. Instead, cash or the amount due from the Factor can be shown as an asset, thereby permitting a company to demonstrate a better working capital ratio on financial statements.

In the past, Bank owned Factors and commercial finance companies handled the vast majority of Factoring. However, today, Independent Companies are a favoured alternative, carrying over 50 percent of the totalled Factored volume in the United States.

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There are two basic types of Factoring in use today

There are two basic types of Factoring in use today; Full Factoring & Confidential Invoice Discounting, both of which are governed by a written agreement. The agreement typically lasts for 12 months and automatically rolls over, subject to review. Termination of the agreement can be effected by either party giving 3 months written notice to the other. The choice of product is determined by the client’s requirements, subject to the factor’s approval, whilst both products provide an advance payment against outstanding invoices.

Factoring: Prior to commencement of the facility the factor will enter customer name and address details on to its computer system. Details of outstanding invoices will then be posted to the individual customer accounts. The factor will issue statements of account to each customer, along with a letter from the client which introduces the factor as the legal and beneficial owner of the debt and give details concerning future payments. When funds are required the client may then request an advance payment equal to a pre-agreed percentage of the value of outstanding book debts. The client will ensure that a printed Notice of Assignment, detailing the factor’s rights, appears on all future invoices and forwards copies to the factor for processing, thereby increasing the level of available funds. The factor will undertake all credit control functions and, on collection of debtor payments, will allocate cash to the individual debtor accounts on its ledger. Receipt of debtor cash releases the balance of the invoice, less the level of the previous advance. The factor furnishes the client with regular in-depth ledger information and a statement detailing the month’s transactions.

Confidential Invoice Discounting: This product involves the factor entering the total of the client’s on to its system as a single figure. As with factoring, the client may then request an advance payment against outstanding debts and will continue to notify the factor of sales batch totals on a regular basis. The confidentiality of the facility dictates that the client undertakes its own credit control. Customer remittances are paid into a trust account, whereupon the factor processes the cash to create additional availability. The client is required to maintain a Control Account, which details all transactions and this document is sent to the factor on a monthly basis, along with a copy of the client’s month-end aged debtor analysis.

Generally speaking, most factoring and discounting facilities are offered on a recourse basis, i.e. the responsibility for bad debts rests with the client. Non-Recourse facilities are however available and involve the factor providing credit insurance against the failure of the client’s customers.

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Factoring and Invoice Discounting are becoming an increasingly important

“Factoring and Invoice Discounting are becoming an increasingly important and flexible means of funding for growing businesses”.

TIM MELVILLE-ROSS, Former Director General of the Institute of Directors

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Factoring and Invoice Discounting could usefully provide business

“Factoring and Invoice Discounting could usefully provide business with the opportunity to grow. The contribution Factoring can make is recognised and increasingly accepted as part of the financing menu”.

EDDIE GEORGE, Governor of the Bank of England

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Small companies could help themselves by making more use of Factoring

Small companies could help themselves by making more use of Factoring and Invoice Discounting. These products have the advantage of being linked directly to the volume of sales, so that the available financing grows as the business grows”.

HOWARD DAVIES, Ex-Director-General, CBI The Times

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