What are the advantages and disadvantages of Factoring?
Following are the advantages of factoring :
1. Factoring is a way to finance requirement of working capital of the company in respect of receivables.
2. It provides a large and quick increase in cash flow of the business.
3. Due to existence of many factoring companies prices are usually competitive.
4. It is a cost effective way of outsourcing your sales ledger at the same time managing your business.
5. Factoring firms are specialized in their field thus the company might get useful information about the creditworthiness of its customers.
6. Protection from bad debts if non-recourse factoring is chosen.
7. Factors check the credibility of company’s customers which help business trade with better quality customers.
Following are the disadvantages of factoring :
1. Cost: Factoring is a costly mean of financing as the cash price of the invoices is discounted by the factor company, the upfront cash price being usually 70-90% of the face value, depending on the credit history of the customers and the nature of selling company’s business which reduces the profit margin of the selling company.
2. Selling company gets locked in to the relationship with the factor as they rely completely on the services of a factor because of the cash flow implications of any arrangements.
3. Possible harm to the customer: Selling company fully gives the charge of collecting invoice to the factoring company and pays more attention on money collection methods which impairs company’s relationship with their customers.
4. Company image distortion: In the past, factoring was considered a sign on the financial difficulties of the company. However in recent times this perception has changed and it has considered a normal way of doing business.
5. Impose constrains the way of doing business: In the case of non-recourse factoring the factoring company pre-approve the selling company’s customers, which cause delay in placing new orders. Also the factoring company applies its credit limits to individual customers and will apply credit limits to individual customers.
6. The selling company may have to pay extra to remove its liability for bad debtors.
7. Some customers might want to deal directly with the selling company instead of dealing with factor.