Is Invoice Factoring the Right Financing Option for Consumer Products Companies?
August 12, 2022
By Robert Reilly
A fundamental part of any successful business plan is determining how and where you plan on acquiring the necessary funding to operate and grow. Whether it’s through a traditional bank or an alternative lender, consumer products companies have several viable options to leverage. If you’re looking to cover operating or material costs, improve cash flow, or even fund an expansion, it’s important to identify which option is right for your business.
Outside of traditional business financing, many consumer products companies choose invoice factoring. This is the practice of selling your accounts receivable invoices to an external vendor.
Pros of Invoice Factoring
Invoice factoring is a popular option for consumer products companies as it provides immediate cash flow for short-term financing needs, as opposed to waiting 30, 60, or even 90 days for an invoice to be paid. When companies sell their invoices for factoring, they typically receive a percentage of the invoice value upfront in the form of an advance, with the remaining balance, less factoring fees, remitted to the company once the invoice is paid.
Since invoice factoring takes advantage of already outstanding receivables, it does not require additional collateral and likely involves a shorter approval process than traditional bank financing. Additionally, most factoring arrangements provide for customer credit checks, relieving the company of the time and expense of providing this important function.
Invoice factoring can become the cornerstone of a company’s financing strategy since the financing line can easily grow as invoice balances increase, making invoice factoring a potentially attractive option for companies that need their financing to keep pace with their growth. Factoring may be particularly attractive to companies with quality customers who are in need of immediate cash flows and who are willing to pay the associated fees.
Cons of Invoice Factoring
While the concept of taking advantage of cash that is already outstanding may seem like a no-brainer, invoice factoring will not be the best solution for all consumer products companies.
The biggest deterrent to invoice factoring is the cost. Invoice factoring is usually more costly than traditional financing provided by banks. Factor fees can range up to 5% of the invoice value for each month the invoice is outstanding.
The type of invoice factoring arrangement will also impact the attractiveness of this option. These agreements are generally structured as recourse factoring, non-recourse factoring, or a combination of the two.
In non-recourse agreements, the factor takes on the collection risk. Under these arrangements, factors will evaluate the creditworthiness and collection history of your customers to determine if they will purchase the invoices. If a customer is a higher credit risk, or is a slow payer, the factor may determine that the risk is too high to purchase the invoices under a non-recourse arrangement.
With recourse arrangements, a company will be required to buy back any invoices that are not paid, leaving the risk and burden of collections on the company.
Finally, when selling your invoices to a factor, the factoring company will be in touch with your customers to inform them of the arrangement and when payments are late. Some customers may not want their financial information shared with a third party that they have not vetted on their own.
The Bottom Line
In the consumer products sector, it doesn’t matter if it’s for operating expenses, inventory, or production—businesses will continue exploring different options to finance their growth and operating costs. If you’re deciding between invoice factoring or acquiring a business loan for these purposes, consider your options and what works best for your unique situation.