What is factoring and invoice discounting? The differences and benefits

Posted by JimMay on April 5th, 2017

What is factoring? Let’s take an instance. Person ‘A’ is doing well in business presently. ‘A’ has sold some of his widgets (maybe 10). But, he has to wait for that payment for 2 months. In such a situation, he just cannot sit and wait for the money. He has to maintain a proper cash flow in order to grow his business. And this is where the concept of factoring comes in.

What is factoring?

It’s a financial transaction when a business sells its invoices (accounts receivable) at a discount to a factoring company (a third party, also known as factor). Now this company will give you around 80-95% of that amount immediately so that you can cater to your instant cash needs.

4 major types of factoring –

• Finance factoring
• Maturity factoring
• Discount factoring
• Undisclosed factoring

In this cash management process, the factor later collects the payment from the creditors and returns rest of the amount, minus the discount or commission to you.

Many markets see this concept of factoring as invoice discounting as well. However, there is a fine difference between both these concepts of cash flow management.

What is invoice discounting?

In this process, a business borrows cash using the unpaid invoices as collateral. The invoice discounter agrees to pay a certain percentage of the total value in the accounts receivables. However, the business needs to pay interest along with that loaned amount to their invoice discounter once creditors make the payments.

What are the differences between these 2 cash management tools?

     1. In factoring, factors take control of your sales ledger; while in the other, you can have complete control and maintain the confidentiality of your invoices. 
     2. Again, in the first method, the factor will chase your creditors for those payments. In invoice discounting, you need to do the same in the usual process. 
     3. Your clients will be clearly aware of your relationship with a factoring company, while in the other one, this entire process remains completely opaque.

Benefits of these cash management tools:

There are reasons why businesses are constantly hiring factoring companies to grow to escalate financially. Benefits of both these tools are –

    1. You can receive instant cash within 24 hours. 
    2. Up to 95% of the amount can be released from your unpaid invoices. 
    3. You don’t need any other asset to keep as collateral. So, it’s safe. 
    4. Funding levels can impact your turnover with a positive outcome. 
    5. Besides, experienced accounts receivable specialists offer excellent business advice too.

With these methods, businesses can effectively focus on the various resources in other sectors as well.

Companies in different domains including manufacturing, construction, recruitment, printers, etc. can avail such services for profitable management of their finance. Also, startups, struggling and growing businesses can make the best use of this facility.

One more suggestion: While hiring the accounts receivable specialists, make sure to choose the reputed company who can ensure fast (within 24 hours) and safe funding. Look for the companies who offer low factoring rates with higher advanced payments. Choose the smarter way to manage cash and help your business escalate.