What is Factoring: advantages and disadvantages
Posted: Thu Dec 05, 2024 8:29 am
Factoring is a way of collecting debts from third parties, available to companies that want immediate liquidity, through the advance of amounts invoiced to customers. Typically, companies' liquidity and cash flow problems are related to late payment of customer invoices, so credit factoring (invoicing in advance) is a way of responding to these debts.
The factoring mechanism is legally regulated by Decree Law No. 171/95 and comprises three parts:
Factor - financial institution (bank or factoring company) that fusion phone number data debts from customers (credit), advances the invoiced amounts and is responsible for collecting them from debtors;
Member - company that provides services or sells products and transfers customers' credits to the financial institution (factor);
Debtors - people who purchase services and/or products from the member on credit. They are responsible for paying the outstanding credit, through the factoring contract.
The financial institution responsible for credit factoring, in addition to advancing all or part of the amounts to companies, also ensures a credit risk guarantee in the event of bankruptcy or insolvency of debtors.
On the other hand, the participating company is obliged to pay:
a collection commission , based on the amount of credits to be assigned, the number of invoices, the number and quality of debtors, the payment conditions, the credit risk and the type of additional services requested;
an interest rate, due to the advance made by the factor, calculated day by day (indexed to the reference rates of the banking system).
Advantages of Factoring
These are the main benefits of factoring for companies:
Faster payments, no need to wait for the invoice due date;
More efficient collections, as factoring companies have experience in this area;
Increase in available capital, because the financing the company receives is directly linked to the invoices it has issued;
Better purchasing management, as, due to the liquidity acquired, the company is able to obtain better conditions from its suppliers;
Absence of risk and responsibility when submitting the collection to the respective financial institution.
But not everything is beneficial, there are some disadvantages, namely:
Cancellation of credit due to persistent non-compliance by the company's customers (member);
Non-acceptance of all credits proposed by the company, if the risks are very high.
How Factoring Works
The factoring process takes place in two distinct stages:
Signing of the factoring contract between the company and the bank or factoring company, lasting one year (the company transfers the short-term credits of its customers and receives, in return, the agreed amount;
Collection of debts from the participating company's customers, concluding the process.
Factoring vs Confirming
Confirming enables SMEs to manage the payment of invoices to suppliers. Payment orders are delivered to the bank, which then contacts the suppliers and pays the invoices in the previously agreed manner (allowing for advance payment of income).
On the other hand, in factoring, financial institutions assume the debt of SME customers, i.e. they are responsible for paying customer invoices. Thus, the company benefits from short-term liquidity, having ensured the receipt of invoices issued to customers.
In conclusion, confirming manages the SME's payments to suppliers, while factoring manages the company's customer receipts.
The factoring mechanism is legally regulated by Decree Law No. 171/95 and comprises three parts:
Factor - financial institution (bank or factoring company) that fusion phone number data debts from customers (credit), advances the invoiced amounts and is responsible for collecting them from debtors;
Member - company that provides services or sells products and transfers customers' credits to the financial institution (factor);
Debtors - people who purchase services and/or products from the member on credit. They are responsible for paying the outstanding credit, through the factoring contract.
The financial institution responsible for credit factoring, in addition to advancing all or part of the amounts to companies, also ensures a credit risk guarantee in the event of bankruptcy or insolvency of debtors.
On the other hand, the participating company is obliged to pay:
a collection commission , based on the amount of credits to be assigned, the number of invoices, the number and quality of debtors, the payment conditions, the credit risk and the type of additional services requested;
an interest rate, due to the advance made by the factor, calculated day by day (indexed to the reference rates of the banking system).
Advantages of Factoring
These are the main benefits of factoring for companies:
Faster payments, no need to wait for the invoice due date;
More efficient collections, as factoring companies have experience in this area;
Increase in available capital, because the financing the company receives is directly linked to the invoices it has issued;
Better purchasing management, as, due to the liquidity acquired, the company is able to obtain better conditions from its suppliers;
Absence of risk and responsibility when submitting the collection to the respective financial institution.
But not everything is beneficial, there are some disadvantages, namely:
Cancellation of credit due to persistent non-compliance by the company's customers (member);
Non-acceptance of all credits proposed by the company, if the risks are very high.
How Factoring Works
The factoring process takes place in two distinct stages:
Signing of the factoring contract between the company and the bank or factoring company, lasting one year (the company transfers the short-term credits of its customers and receives, in return, the agreed amount;
Collection of debts from the participating company's customers, concluding the process.
Factoring vs Confirming
Confirming enables SMEs to manage the payment of invoices to suppliers. Payment orders are delivered to the bank, which then contacts the suppliers and pays the invoices in the previously agreed manner (allowing for advance payment of income).
On the other hand, in factoring, financial institutions assume the debt of SME customers, i.e. they are responsible for paying customer invoices. Thus, the company benefits from short-term liquidity, having ensured the receipt of invoices issued to customers.
In conclusion, confirming manages the SME's payments to suppliers, while factoring manages the company's customer receipts.