Factoring Definitions and commonly used Factoring Terms
Under the terms of a factoring facility the client submits copies of sales invoices to the factoring company (either by post or electronically) who in return makes available a pre-agreed percentage of the value of the invoices for immediate drawdown.
The factoring company maintains the sales ledger on behalf of the client and will contact the customer for payment of the invoices if and when they become overdue. When the customer has paid the debt to the factor, the client becomes eligible for the balance of the invoice less the factor’s charges.
The main benefit of factoring is in it’s flexibility as unlike more traditional forms of funding, the amount of finance available is tied to sales so the availability of finance is always there to meet rising sales.
Recourse and Non Recourse Factoring
Factoring with recourse
The factor carries out the administration of the sales ledger and the collection of debts with the client remaining responsible for bad debt losses.
Factoring without recourse
Non-recourse factoring is where the factor assumes the responsibility for bad debt losses (100% of credit covered invoices) in conjunction with its administration of the sales ledger and the collection of debts.
This is a form of factoring whereby the client, rather than the factor, retains responsibility for the maintenance of the sales ledger, credit control and collection of debts, although the customer is aware of the factoring arrangement and debtor payments are still be made directly to the factor. This type of facility is therefore generally only suitable for those businesses that already maintain a professional sales ledger and credit operation especially where there would be a minimum benefit from a full factoring service.
ABL – Asset Based Lending.
Advance Rate – The pre-agreed percentage that the factoring company will advance against approved sales invoices.
Application for Payment – An application for payment is often raised in the construction industry instead of an invoice and covers the amount of work completed from an overall contract.
Approved debt – A debt that the factoring company has accepted as being eligible for prepayment.
Asset Based Lending – The provision of funding against current assets eg stock and debtors
CHOCS – This stands for Client Handles Own Collections and is a type of factoring facility where the sales ledger management is handled by the client.
Concentration – The amount of a client’s sales ledger balance that is due from a single customer.
Confidential Invoice Discounting – This is a facility where factoring company provides a finance facility but takes no active involvement in collecting the client’s invoices and there is no disclosure on the invoices. The facility is fully confidential and customers are unaware of any lender involvement.
Confidential Invoice Factoring – This is an invoice factoring facility where a factoring & invoice discounting specialist makes contact with customers as if they were the actual client. This means that the customers are unaware of the factoring company’s involvement.
Dilution – The amount of reduction in the sales ledger due to credit notes or returns or discounts etc
Disclosed Invoice Discounting – An invoice finance arrangement similar to confidential invoice discounting but isn’t confidential. This means that your customer is aware that their debt has been assigned to a factoring & invoice discounting specialist but you still collect the debt.
Discounting Charge – The charge for borrowing money and is usually shown as a cost over base rate or Libor and is generally equivalent to the interest rate paid on an overdraft facility.
Factoring Broker – A company that introduces business owners with the most appropriate factoring company. Factoring Solutions is a factoring broker.
Factoring Commission – The pre-agreed commission rate levied by the factoring company on sales invoices. This is variable depending on turnover, amount of sales ledger work and risk etc
Initial Payment – Alternative term for Advance rate
Invoice Discounting – Similar to factoring but it tends to be undisclosed and the client continues to maintain the sales ledger and effect the credit control with all debtor funds received banked into a trust account.
Invoice Factoring – A facility where an invoice factoring & invoice discounting specialist provides finance against invoices as well as providing a credit management service.
Invoice Finance – An umbrella term for all forms of debtor finance including factoring and invoice discounting.
Non-Recourse – A factoring or invoice discounting facility where the credit risk in the customer failure is with the finance company up to agreed limits
Notice of Assignment – The wording required to be included on invoices for a factoring facility.
Pre-Invoicing – Where an invoice is issued prior to goods or services being delivered.
Prepayment – The amount that a factoring & invoice discounting company will pay against an invoice normally expressed as a percentage.
Purchase Order Financing – In this type of trade financing, money is advanced against a purchase order for finished goods or value added products to finance the manufacturing of the item where the goods are subject to a firm customer order. Once the goods ship to the customer and invoiced the transaction is closed out when the factoring company buys the invoice.
Recourse – Recourse is the passing back of a customer debt by the factoring company to the client generally in the event of the customer’s insolvency or continuing trade dispute
Recourse Period – the number of days in which a factoring company will fund an invoice before requiring the client to repurchase the debt if remaining unpaid.
Refactoring Charge – A fee charged by a factoring & invoice discounting company when an invoice is unpaid for longer than a pre-agreed period.
Reserve – The balance of an invoice that the factoring company has not advanced which is retained until the customer has paid it. This is normally withheld to cover contingencies
Stage Payment – Where an invoice is raised for work completed but prior to the completion of all of the work detailed on the original purchase order.
Trust Account – This is the account set up for an invoice discounting client into which they pay the money they receive from debtors.
Verification – A step during the due diligence process in which a factor confirms the validity of an invoice with the customer.