Is factoring right for your business?

Is factoring right for your business?

For a small business owner, especially one just starting out, it sounds like a great idea. For a small and what may at first appear to be a manageable discount, a third-party finance company will accelerate payment for goods and services provided, eliminating 30, 60, or even 90 days of waiting that can stall production and growth.

Rather than risk stagnation or inertia while you wait 30 days (or more!) for payment — or risk losing repeat business by demanding payment from customers ahead of your competitors — outsource that task to a third party. As a result, you remain liquid — at least in the short term — to pay for inventory or purchase equipment, meet payroll, and perhaps even bid on additional products.

In short, grow your young company.

Well, here’s some advice: take a deep breath. Enter carefully. Crack the numbers.

Because instead of growing your business, these quick loans can sometimes lead to long-term profitability and even stifle it.

Suppose you owe $10,000 for goods and or services you have provided. The customer has agreed to pay you that in full within 30 days. But if you’re starting your new business early, or even if you’re not, waiting for even 30 days for payment can hamper your ability to create a new product or run your business at full capacity.

The cash flow intermediary says the arrangement makes all parties happy. Buyers get their goods weeks or even months before they have to pay for them. Sellers, on the other hand, get paid faster and — especially for small businesses — without the fear that often comes with waiting to get paid. The intermediary completes the circle by later collecting the full invoice amount from the buyer and profits from the spread.

So you engage one of these cash flow platforms. But at what pace? If your house is in order and you’re dealing with a customer with an excellent track record of paying in full and on time, this can go up to 5 percent. On the other hand, you may have to offer a higher percentage for someone with a lesser track record.

Say it’s 12 percent. Instead of waiting 30 days for the total amount, you can access $9,800 within 10 days. Offering a $200 discount seems beneficial because it frees up money to reinvest in your business sooner. Multiplied over time, however, by a repeat customer — or multiplied by a consortium of customers — that discount can affect growth, liquidity and flexibility.

Is it better to wait for full payment? That depends on several factors that are unique to each business. Maybe cash flow optimization is for you, at least for a start. But there are other avenues, which are a little slower to access, but may be less harmful to your long-term health. Other options, such as SBA guaranteed loans or asset-based loans, may be a better fit for you.

A revolving line of credit or a more traditional loan can cost you as little as one percent in those 30 days and ultimately give you a better return.

Can you afford to wait? Even if it initially hinders increasing inventory and attracting new customers? As I said, every business model and situation is its unique case. Breathing is essential; walk carefully and crack the numbers.

In short, use your mind.

You owe it to yourself – and your fledgling company – to consider all options.

The opinions expressed here by Inc.com columnists are their own, not Inc.com’s.
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