How To Convert Paper Into Cash

When a man goes on a business trip with cash in his wallet and returns only with receipts, one might think his wallet had converted the money into receipts. Wouldn't it be nice if that paper could be turned back into cash? When a business invoices other businesses or the government, there is a way of converting paper into cash. That process is called factoring.

Factoring is when a third party advances usually about eighty-percent of the face amount of an invoice to a company followed by the remaining balance or reserve minus a discount fee. When a business accepts credit cards for payment, the basic principles of factoring are used. The business receives the face amount of the credit card invoice minus a discount almost immediately after the invoice has been submitted.

Factoring can only be done for invoices from business to business or business to government. Payment for factoring is in two installments whereas payment for credit card invoices is made in one installment. In either case, a discount fee is charged.

Even if a business does not have the best of credit, it is still possible to factor invoices. Just as a credit card company determines the creditworthiness of cardholders, a factor determines the creditworthiness of a client of the company that is benefiting from factoring.

Since factoring is more expensive than conventional financing, it should be considered a time-sensitive and transitional means of resolving current cash flow problems.

If a company is able to carry the accounts for the first thirty days, it is possible to factor only the invoices that extend beyond the thirty day invoice cycle. Many government agencies take sixty or even ninety days to pay. In part, it is due to the bureaucracy involved in payments from the government.

As a matter of perspective, a business should consider net-thirty days as an interest-free loan to that customer, business or government for thirty days. Factors are helpful in determining the creditworthiness of those debtors beforehand thus preventing the probability of extending credit to a company with less than a desirable credit.The government is almost always considered a favorable risk. Factors do underwriting to determine the probability of getting paid.

The application process is relatively simple. Most factors will get right back to a company within a matter of only a couple of days once their application and paper work has been submitted. Once a company has been approved for factoring invoices, the amount of money available grows automatically as the company grows, number and amount of invoices increase. Thus, there is no need to apply for an increase in the line of credit.

Since factoring is not a loan but rather the sale of an asset, it shows up on the balance sheet as cash rather than an accounts receivable. Therefore, it actually shows up favorably on the balance sheet.

Most companies needing to finance purchase orders are those dealing mainly in products rather than services. There are some fortune-500 companies that have used factoring as a way of resolving cash flow problems until they were able to qualify for conventional loans.

It is important to find a factor who can make the right match of a factor with the company. Some factors won't even consider construction while others actually specialize in construction. Some factors only finance third-party medical receivables.

One way of offsetting the cost of factoring is for a company to discontinue offering early-pay incentives. Conversely, a company can often offset the cost of factoring by taking advantage of early-pay incentives offered by suppliers.

When a company realizes the time-value of money and the importance of having a positive cash flow, factoring often is a viable alternative while the company is in a growth mode.