Choosing the right factoring company is essential to the success of your business. The factoring market is very competitive, with many providers and different offers. In this article, we show you how to select the best factoring company for your business.
Note: If your business is based in Quebec, read this guide.
Is factoring right for you?
Companies often have to offer net-30 terms, or longer, to their clients. However, they don’t always have sufficient cash reserves to handle expenses while waiting for the invoice to get paid. Factoring is a solution that fixes this specific cash flow challenge by financing your accounts receivable.
This funding provides your company with immediate access to working capital which can be used to pay for business expenses and foster growth. Factoring is usually available to companies that meet these criteria:
- Works with commercial clients
- Offers 30- to 60-day payment terms
- Has profit margins > 15%
- Has problems due to slow-paying clients
To learn more, read “What is Invoice Factoring?” and “How Does Factoring Work?”
The process
The Canadian factoring market is competitive, and companies have a wide range of options. However, there are important differences between factoring providers. Choosing the right factoring company takes diligence to ensure you find the right one. The process consists of finding companies, interviewing them to narrow down candidates, comparing proposals effectively, and making the final choice.
1. Find factoring companies
Most business owners use the Internet to look for a factoring company. This approach is an effective way to develop an initial list of finance companies and allows you to gather some information. You should also ask your network of contacts for references. Factoring is common, and you may already know someone using the service.
2. Interview factoring companies
Interview every factoring company to narrow your initial list of providers and determine which company has the potential to be the right partner. Develop a set of questions beforehand and take each company through your questionnaire. This process allows you to make a better comparison across companies. Here are some areas your questions should cover.
a) How long have you been in business?
This question is important because the factoring market is growing, and there are a lot of new companies. You are better off working with a company that has at least a few years of experience. Having some industry longevity shows they have smoothed out many initial operational and portfolio challenges. Additionally, companies with longer track records have more experience managing transactions during downturns.
b) What industries do you specialize in?
Factoring companies usually claim to be generalists that can finance businesses in most industries. While this claim is true, many companies specialize in certain industries. You are usually better off with a company familiar with your industry and its characteristics. Ask some detailed questions to verify the depth of their experience.
c) What are their minimum and maximum transactions?
Many factoring companies advertise that they can finance a wide range of transactions, such as between $5,000 and $5,000,000. However, most factoring companies also have preferred transaction sizes. This preference usually reflects the size range of their existing client base. In most cases, you are better off working with a company whose size preference matches your revenues.
d) What are their factoring rates?
There is no standard factoring rate or structure. The rate is determined based on your company’s volume, industry, and general risk. Based on these parameters, most plans charge between 1.5% and 4.5% per 30 days. Common price/rate structures include the following:
i) Flat fee
Flat fee structures are the simplest pricing structure. The factoring company charges a single rate regardless of how long the end customer takes to pay the invoice. These plans are common in transportation and frequently used by small carriers. However, some factoring companies also offer them to clients in other industries. Example: “3% flat rate for 60 days”
ii) Incremental
The most common rate structure is the incremental rate. The rate increases based on how long an invoice takes to pay. Examples include “1% per 10 days”, “3% for 30 days, .01% per day thereafter”, etc.
iii) Other structures
Larger financing lines can be priced using structures similar to an asset-based loan (ABL). The factoring company charges a low flat rate per invoice and an APR based on the utilized funds.
e) Do they have offices in Canada?
You are usually better off working with a factoring company with offices in Canada. This point is important if your company is based in Quebec since the factoring company needs to be familiar with Provincial contract law and requires bilingual staff.
3. Evaluate proposals
The next step is to evaluate all proposals. Focus on the following three areas:
a) Rates
Comparing rates can be challenging since factoring companies can use different formats. We prefer to compare proposals by using a “cost per dollar” approach. Calculate this figure by dividing the rate by the advance for a similar factoring period.
b) Terms
The terms outline the specific provisions of the contract. These include the length of the contract, recourse, reserve funds, etc.
c) Other criteria
Other criteria, such as industry specialization, accommodations, and ancillary services, are also important. For example, factoring companies may offer credit services and have alliances with providers of other critical solutions.
4. Make the selection
Following this process, you should have enough information about the factoring companies to make an educated decision. Many business owners make the mistake of focusing only on the cost of factoring. The cost is an important component, but it is not the only one. You should also take into account other equally important attributes, such as flexibility, industry specialization, etc. Ultimately, you want to work with the finance company you will be most comfortable with.
May we earn your business?
We are a leading factoring company and can provide you with competitive terms. For more information, get an online quote or call us toll-free at (877) 300 3258.