Companies that rely on invoice billing tend to be at the mercy of their customers when it comes to cash flow. Usually, that is no problem, but when things start to tighten up in the local economy, it can lead to cash underruns from customers who prioritize paying you after other contractors. That is when you need tools to put control over your cash flow into your own hands. The most popular two invoice-based business models are AR financing and factoring. While they are similar, understanding the key differences is essential to using both effectively.
Cash for Invoices
Both of these methods provide you with working capital based on your invoices, which is why many people get them confused. If you’re looking for more cash overall, then using accounts receivable financing is probably your best bet, because there is a backend payment after the cash advance and fees have been recovered by the lender. By contrast, working with a factor means discharging the invoices from your books completely, allowing you to just move forward. Sometimes the cash upfront is comparable between the methods, but factoring gives up that backend payment at the least.
Zero Recourse Options
Both factors and financing companies provide options for zero recourse financing based on your invoices, generally. Some financing companies don’t offer it by choice, but you can find ones who do. The key difference is that when you work with a financing company that offers no recourse funding, it costs extra. Factors assume the risk involved with the debt by nature, so a no recourse deal for you is the standard.
Reduce Receivables Overhead
Factoring and AR financing both provide outsourced labor to help with receivables because both methods involve directing payment to an outside party who tracks it and handles the money. If your goals include reducing that overhead labor as much as possible, factoring provides you with the best opportunity because it closes those receivables and lets you move on. AR financing still outsources a lot of the labor involved with collections, but it does involve additional work tracking backend payments and communicating with the financing company about nonpaying customers if they have an issue with continuing to finance any clients.
Choosing Your Cash Management Method
So which should you choose? In most cases, it’s about your current priorities. Both of these financing methods have their advantages and both are usually offered from the same sources, so you can go back and forth between them as needed. If your business is streamlined and you’re trying to avoid additional administrative overhead, factoring is great. If you need to maximize your total income, then financing is the better option. There’s no reason to think you can only use one.