The financial strength of a business can be assessed as to how quickly it can convert its current assets into liquid cash. Outstanding accounts receivable represents the crucial component of current assets. Any businessman would like to have his cash collection cycle to be minimum and in line with their cash payment cycle. A business can handle its outstanding accounts receivables by exploring various solutions like invoice financing, invoice factoring and invoiced backed line of credit.
Invoice financing helps you use the outstanding accounts receivables as collateral to obtain finance. It is a form of short term finance where the lender provides a certain amount as loan and charges a percentage of the invoice amount as fees. The inherent benefit is your clients are not aware of the fact that their invoices are financed. This option can be used if you are certain about the collection of invoices and also need money instantly.
Invoice factoring is the simple way of selling your outstanding accounts receivables to a factoring company. The company provides a percentage of the total invoices as loan. The remaining percentage which is taken by the factoring company works as the cost of factoring. This is also called as discounting or factoring fee. Some companies may also charge additional fees for credit protection, credit worthiness etc. The gap in working capital flow is bridged by invoice factoring instead of going for traditional sources of funding.
It is also called as accounts receivable line of credit. It is a loan backed by your accounts receivable as collateral. The main difference between invoice financing and line of credit is that the former provides outright finance, but the latter provides a borrowing limit considering the size of invoices and payment frequency. Your business needs to have positive cash flow, high creditworthiness and strong business financials to be eligible for invoice backed line of credit. Interest is charged on the loan but at lower rates.
Before you embark upon these methods, ensure that you do a comparative analysis of cost and benefits involved in handling the accounts receivables in-house and alternative financing. The various important factors that should be considered are processing fee, interest, time value of money etc. These arrangements are not typical outsourcing as your business is primarily funded with your outstanding accounts receivables as the underlying asset. Above all, your valuable relationship with the clients must be given due consideration at every step.
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