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Small Businesses Use Factoring Instead of Loans

By Kristin Gabriel

Republish: EasyPublish™ Published: 28Jan2009 Word count: 430 Viewed: 156 time(s) Get Free Content For Your Site

In today's tough economic times, many small business owners have discovered that they can use accounts receivable factoring to help stay afloat, rather than trying to get a small business loan.

Loans take time. The first step usually is to meet with a loan officer, and you'd better be prepared because you'll need to present a business plan justifying the loan amount that you want. The standards for a small business to qualify and receive a small business loan is different than for a medium sized company to qualify for a loan, and often times a small business won't have the assets of a medium sized business, nor will it have substantial cash flow to deal with any shortfalls.

These days, many small businesses have discovered that factoring is an even better solution. Many businesses do not get paid right away for delivered products or services, and as we know, every business needs some cash on hand in order to sustain and grow. So what happens if you do not get paid for a few months, and you do not have time to seek alternative financing such as a loan through banks or venture capitalists?

Single invoice factoring may be the answer because it's a fast way to turn receivables into cash. In an ordinary scenario you might have to wait 30, 60, or sometimes even 90 days for invoices to be paid, whereas factoring companies can pay what's owed up front.

Factoring is basically when a business sells its accounts receivable invoices at a discount, and it is different from a bank loan in several ways. Banks base their decisions on a company's credit worthiness, whereas factoring is based on the value of the receivables. Secondly, factoring is not a loan - it is the purchase of a financial asset, or the receivable. Bank loans involve two parties, while factoring involves three parties.

Furthermore, let's not confuse factoring with invoice discounting. Factoring is the sale of receivables. Invoice discounting is borrowing where the receivable is the collateral. There are three parties involved in factoring including: the one who sells the receivable, the debtor, and the factor. A receivable is essentially a financial asset associated with the debtor's liability to pay money owed to the seller, which is typically for services or work that has been performed or products (merchandise) sold.

To summarize, single invoice factoring is when the seller sells one invoice (the receivable) at a discount to the third party. The factor obtains the cash. So the sale of the receivables transfers ownership (and risks) of the receivables to the factor.

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