Invoice Factoring has been a staple financing option for companies with slower cash conversion cycles, but there’s a catch.
Though it seems quick and painless, factoring companies often cut deep into profits, taking up to 20% of total sales. Before you factor your invoices, consider the true cost, avoiding shiny headline rates.
Why You’re a Likely Candidate for Factoring
The longer it takes companies to convert their inventory or services into profits, the more cash gets tied up in the business cycle.
Often businesses provide trade credit or relaxed payment terms, experiencing payment delays or gaps between outgoings as payments stretch as growth increases.
Traditionally, business would resort to factoring because it’s convenient. Selling receivables is faster access to cash, removing the headache of waiting for payments before taking on new jobs, keeping up with wages or purchasing stock.
On average, factoring companies advance only 60 to 80% the value of your receivables. Your company gets the remainder, less the cost of the factoring service once customers makes payment. When comparing factoring providers, pay attention to lock-in service fees as you’ll still pay fees even if you are not utilising the funding.
Most providers of invoice factoring have a calculator on their website, you can compare their service fees to that of other factors. Of course this method seems transparent, but a factoring calculator only gives a high level estimate, only displaying a portion of the associated costs.
Here's four reasons factoring calculators should be avoided:
One Simple Fee Could Mask Expensive Rates
When shopping online it’s easy to get confused. Some factors charge weekly, daily or monthly blocks on the invoice face value regardless of what you borrow. Others split up their fees into bite sized chunks to dilute the true cost, drawing attention to a lower interest rate, diverting you from costly lock-in yealry contracts.
Beware the single fee: It’s common to see advertised, “no application fees”, “setup costs”, “no on-going fees” just a simple rate. This can mask a higher cost of finance that's been engineered into the funding.
A few easy questions worth asking are “what will it cost me if I am not drawing funds” and “what does this cost me per day”. This way you know (a) are there any hidden ongoing costs for having this in place and (b) are you charging me only for the days I borrow funds.
Hidden Contract Fees
Calculators provide you with a lead in to the costs of the service, but what about hidden fees? The contract terms will tell you more about the associated costs your business could be up for than a factoring calculator does. Try requesting a copy or ask for indicative terms.
Website Fee calculation tools are a marketing gimmick providers use to peak user’ interest, only including their most favourable rates needed to hook you in.
If you’re a business considering factoring, read the fine print carefully before you execute a contract. Look for vague wording and ask questions to avoid getting hoodwinked. Some factors penalise clients when borrowing volumes fall under a certain amount with a fee to make sure those accounts stay profitable.
Calculators often give a false sense of security; savvy entrepreneurs will dig for a more comprehensive breakdown of costs to ensure they don’t end of with buyers remorse.
Companies that factor invoices relinquish control. Factoring companies take over the collections process, calling customers on your behalf, often adding a double layer of communication with your customer.
Collections process are determined by the factor with your customers. For this reason, it is of utmost importance that you choose a factor that is just as committed to working with you to agree on a set of rules before engaging with your valuable customer base.
Generally, the lender becomes an extension of the company. If customers encounter less than stellar customer service from the factor, they hold you accountable. There’s no question that your company has invested energy, time and resources to nurture its relationships, only taking one bad experience to tarnish.
Placing a third party in control of customer communications may end up costing your sales.
Hidden Administration Costs
Invoice factoring software is rapidly becoming outdated. Factors almost always utilise “off the shelf” software built by overseas companies trying to cater to the masses, across multiple countries. These software providers are slow to evolve and simply can't keep up with the rapid evolution of data automation and cloud technology.
Manual processes, double handling, data entry, complicated reports and confusing fee structures are just a few archaic roadblocks you’ll encounter.
Modern lenders are eradicating these hidden layers of administration which add escalating costs to your back office. Business owners are often forced to dedicate full time staff to operating the new factoring facility or risk doing it themselves.
Where to if Not Factoring?
Your company should not have to turn to a factoring provider to tide itself over.
Modern financing solution such as Waddle enable businesses to use their cloud accounting data to boost cash flow by drawing funds against unpaid invoices the instant they are created, automating every aspect of the financing through two-way real-time data monitoring made possible by the connection.
The modern offering replaces the traditional "factoring" system, whereby small businesses sell outstanding invoices to a third party financier in exchange for funds. In this modern product, small businesses continue to own their relationships with their customers and manage their invoices without interference.
By leveraging a small business's accounting data and not requiring any manual processes or paperwork, this solution delivers a 100% online application and offer, removes traditional complexities and lowers costs.
Waddle helps put more money directly into the hands of small businesses making it possible to access cash on demand against newly created invoices without any additional work load.