Many businesses face a typical problem of long delay ranging up to 60-90 days or even more to receive the payments for the job completed and delivered. In their attempt to achieve the next big order the businesses ignore the need for funds for this next order. So how do you arrange for capital required for various business purposes? Factoring is one of the solutions for it.

Factoring is a financial tool that allows you to get your pending invoices paid in two days. Factoring includes selling your invoices at a discount for immediate cash. The factoring company will collect payment from the client later and you are provided with immediate cash so that you can use it to pay the suppliers and for other business activities. It is not a business loan. It differs from a bank loan in three ways; firstly it is the value of the receivables that is considered and the creditworthiness of the company.

It is not a loan as it is the purchase of the receivables (which are assets), and it involves three parties, the seller who has to receive money, the debtor who has to pay the money and the third is the factor, which is the financial organization that collects money from the debtor. The major advantage of factoring is that as the sales grow, the borrowing capacity grows. This funding is necessary for growth. Also no other asset needs to be used for acquiring funds.

How does factoring work? The factoring company lends the borrowing company a certain percentage of each invoice that it issues and then collects the invoice on its due date and pays the balance to the company. The factoring company charges some factoring fee, a small percentage of the invoice amount and interest on the amount borrowed.

A company, which opts for a factoring deal should ensure that they inform all the related parties regarding it. Initially it would be the existing debtors, which will be taken on, thus involving large payment being made right in the beginning. Entering into a factoring deal is quicker than arranging for finance by any other means. The factoring companies are often more commercial than the lending institutions and help client companies to find a good solution. The biggest consideration for the factoring company is the financial reliability of the two companies. If the debtor pays the bills on time then the factoring company offers a better factoring fee rate to the seller.

Factoring is suited for those companies, which are growth oriented, need funds to increase production, add new clients and improve profits. Compared to other options for loan, which consider the assets, and other repayment options, factoring emphasizes on ability of the debtor to pay. The seller can also use this as additional working capital or pay off any tax liability. The advantage of factoring is that the seller can arrange to buy in bulk and avail of discounts from the suppliers thus concentrating on increasing production and the profitability. Factoring is cost effective as the cost involved is dependent on the application and has a specific fee structure with no hidden costs.