The Difference Between Accounts Receivable Financing and Factoring
Cash flow is the number one challenge all businesses face. One of the major reasons companies must deal with negative cash flow is the lag between issuing invoices and receiving payment. To avoid credit risks and keep funds liquid, many businesses sell their receivables so they can receive instant cash.
Two of the most popular tools available to companies who wish to do this are invoice factoring and accounts receivable financing. Understanding the difference is critical to determining which, if either, is appropriate for you.
Factoring is considered the more traditional route. The major advantage of factoring is that it provides instant access to cash. The disadvantage, however, is that it comes at a high price. Only about 80% of the sold invoices are advanced in cash.
Factoring vendors usually require businesses to sell their invoices wholesale, meaning they must sell alltheir invoices. This often results in costs of 30% or higher in annual interest. Factoring is also typically limited to domestic transactions which creates a challenge for companies with international accounts.
Accounts receivable financing works in a much different way, and may be more appealing for many businesses. Vendors generally have a vast portfolio of funders, which allow them to have more cash on hand. This benefits companies as it can often allow up to 100% immediate advanced payment on available invoices. The rates are typically much lower than they are through factoring, sometimes up to TEN TIMES lower, in fact, as there is less risk involved for the vendor.
Accounts receivable financing vendors do not require wholesale invoice selling. Rather, the company provides or uploads its invoice data only for the invoices they wish to have financed. In other words, the business can pick and choose which invoices it wants to submit for financing, and can simply handle the others in-house without a vendor, and therefore without losing revenue to interest. Accounts receivable financing is also global and therefore more suitable for international businesses.
Being able to get cash advances on invoices can be an incredible asset to a business. It takes away some of the stress of collecting, and can provide a safety net for smaller companies. Weigh the pros and cons of invoice factoring and accounts receivable financing. When you decide which is a better fit for your business, you’ll be well on your way to facing the headaches of cash flow problems head on!