October 13, 2023
min read
Written by:ย 
Nikolaus Hilgenfeldt

What Is Invoice Factoring and How Does It Work?

In the world of business, cash flow is everything.ย 

It keeps the gears turning, allowing you to pay your bills on time, invest in growth, and secure your future.

But what happens when your clients take an eternity to pay you for work you've already completed or products they've purchased? You're left in a financial bind.

That's where invoice factoring steps in to save the day.

Intrigued? Keep reading to discover how this financial solution can transform your business.

What is Invoice Factoring?

Invoice factoring is a financial solution that can help your business bridge the gap between delivering your products or services and receiving payment from your clients.

It involves selling your accounts receivable (invoices) to an invoice factoring company for immediate cash.ย 

In return, the factoring company advances a significant portion (typically 70% to 90%) of the invoice's value upfront, taking on the responsibility of collecting payment from the client.

The Process of Inventory Factoring

Here's how it works:

1. Invoice Sale: You sell your outstanding invoices to an invoice factoring company at a slight discount. The factoring company evaluates the creditworthiness of your invoiced customers to determine the risk.

2. Immediate Cash Advance: Once approved, the factoring company advances you a significant portion of the invoice's value, typically from 70%, and sometimes, even 100%.

The exact advance percentage depends on the nature of your business and the terms of your factoring agreement.


3. Collection: The factoring company takes over the responsibility of collecting payments from your clients, like issuing invoices, following up on payments, etc.

4. Balanced Settlement: When your clients pay the invoices, the factoring company remits the remaining balance to your business minus a factoring fee.

๐Ÿ“Œ The key benefit of invoice factoring is that instead of waiting 30 to 120 days or even longer, you can get your invoices funded within 24 to 48 hours.

Understanding the Costs

While invoice factoring offers numerous benefits, you shouldn't overlook the associated fees:

  • Interest: Typically ranging from 0.5% to 4%, this fee may accumulate weekly or monthly until the invoices are paid.
  • Late Payment Fee: Charged if a client pays the invoice after the due date.
  • Returned Check Fee: Applied if the client's check bounces.
  • Wire Transfer Fee: Levied by some companies if the client opts for wire transfer payment.
  • Origination Fee: Occasional charges when initiating a contract with a factoring company.
  • Termination Fee: Applicable when ending the contract with the factoring company.

What Is the Difference Between Recourse and Non-recourse Factoring?

Just like every customer has unique requirements, there are multiple invoice factoring options to consider.

๐Ÿงพ Non-recourse factoring is a choice where the factor shoulders all the risks of collecting debts.

Businesses that cannot afford the financial strain of outstanding invoices find this a safer alternative. Nonetheless, it is slightly more expensive than recourse factoring.

๐Ÿงพ Larger corporations typically prefer recourse factoring.ย 

This option allows them to refund the factoring company if a customer fails to pay, as they have the financial capability to do so.ย 

By doing this, they can still maintain a healthy cash flow even in the event of uncollectible invoices.

What Sets Invoice Factoring Apart From Invoice Financing?

Invoice factoring and invoice financing share similarities but diverge in significant ways.ย  Here are some key distinctions between them:

  • Credit Emphasis: Invoice financing primarily considers your business's creditworthiness while factoring places greater importance on the creditworthiness of your clients.
  • Collections Responsibility: Factoring companies handle collections for the assigned invoices and channel any excess funds to your business. In invoice financing, your business assumes responsibility for collecting payments and repaying the loan.
  • Reborrowing: Invoice financing usually requires loan repayment before allowing further borrowing. In the case of factoring, you can generally factor approved invoices sent to accredited client companies without restrictions related to your outstanding loans.

Why Opt for Invoice Factoring?

Invoice factoring offers a quick remedy for accelerating cash flow and gaining access to funds, mainly when invoice payments are slow.

Prolonged payment periods, ranging from 30 to 120 days, can cause cash flow blockages for many businesses.ย 

Companies have traditionally relied on bank overdrafts or business loans to overcome this.ย 

But, the following compelling factors may lead you to consider invoice factoring as a viable option:

1. Enhancing Cash Flow

By factoring invoices, businesses can secure an immediate infusion of cash, enabling them to cover operational expenses without waiting for customer payments.

2. Fueling Growth

It offers a solution when a business experiences rapid growth and requires capital to meet burgeoning demand.

It enables businesses to leverage their existing sales rather than resorting to debt or equity financing.

3. Managing Customer Payment Risk

By opting for invoice factoring, businesses can mitigate the risk of customer non-payment, especially when there are doubts about customers' payment reliability.

Furthermore, invoice factoring often comes with non-recourse terms, meaning that the factoring company bears the burden of potential non-payment.

4. Addressing Seasonal Sales Fluctuations

Seasonal businesses frequently grapple with cash flow challenges during off-peak periods. Invoice factoring acts as a buffer, ensuring a steady cash flow even when sales are sluggish.

5. Collateral-Free Financing

In contrast to traditional bank loans,, invoice factoring employs the business's invoices as collateral. This approach proves advantageous for businesses lacking substantial physical assets to pledge.

Invoice Factoring Example

TrendyThreads, an online fashion retailer, uses invoice factoring to manage its cash flow as it constantly refreshes its inventory to stay competitive.

They face cash flow challenges due to the need to pay suppliers upfront while waiting for customer payments, which can take up to 90 days.

They partner with a lender who provides an 85% advance on their invoices for a 3% fee.

They receive the advance within 24 hours and use it to pay suppliers for new inventory.ย 

The invoice factoring company handles customer collections over 30 to 90 days and deducts a 3% fee when they collect customer payments.

TrendyThreads receives the remaining balance after expenses, and the initial advance is deducted.

The Pros and Cons of Invoice Factoring

Pros of Invoice Factoring

โœ… Provides fast access to capital within a few business days, as opposed to the lengthy approval process of traditional loans.

โœ… Suitable for businesses with poor credit as it relies on the client's creditworthiness.

โœ… Ensures consistent cash flow by offloading the responsibility of collecting payments to the factoring company.

Cons of Invoice Factoring

โŒ Businesses relinquish interest and fees to the factoring company, reducing overall profits.

โŒ Some factoring companies may have undisclosed fees, further eroding profit margins.

โŒ Eligibility for invoice factoring depends on the creditworthiness of the clients, potentially limiting participation.

Is Invoice Factoring the Right Choice For Your Business?

Invoice factoring is a financing option with specific qualifications primarily available to B2B enterprises.

Retail stores are typically not structured to take advantage of factoring services

For instance, certain customers are accustomed to extended payment terms, often referred to as "trade terms."

Altering these terms might lead customers to seek alternatives for their business needs. Additionally, shorter terms may not be feasible for some clients due to their financial commitments, making early payments challenging.

This funding choice is viable for various types of businesses, such as small ventures, startups, and established firms extending credit terms to trustworthy clients.

It is widely used in numerous industries, including:

  • Construction
  • Distribution
  • Manufacturing
  • Staffing
  • Transportation
  • Apparel
  • Security services
  • Commercial providers.

Why Would You Need Invoice Factoring?

Businesses turn to inventory factoring for various reasons, including the need for temporary cash flow to cover ongoing expenses, payroll, and vendor bills.ย 

When securing working capital from conventional financial institutions proves difficult, or when businesses desire to supplement their current financing agreements, factoring emerges as an appealing alternative.

Additionally, those who aim to avoid accruing extra debt on their books may find factoring a possible option.

Companies that utilize factoring typically possess comparable attributes, including:

  • Inadequate credit scores
  • Previous financial difficulties like insolvencies or deferments
  • Obstacles in procuring loans from conventional channels
  • Swift growth in small-scale enterprises
  • Negative equity
  • Elevated levels of financial obligations
  • Overdue taxes
  • Insufficient guarantees

Pro Tip

In cases where businesses do not meet the requirements or require different financial arrangements, asset-based financing may present a more attractive alternative.

It is a flexible solution that can be advantageous for a wide range of business types, including retail, unlike invoice factoring, which is mainly suited for B2B operations.

Myos offers unique financing options:

1. Purchase financing: This option allows you to finance future orders with your manufacturer, where we take care of the deposit and balance payments.

2. Stock financing: Uses your existing inventory as collateral to receive the extra capital for marketing, new product launches, expanding your facilities, etc.

Choosing the Right Invoice Factoring Company

Selecting the right invoice factoring company is crucial to maximizing the benefits of this financial solution.ย 

Consider the following factors when making your choice:

  • Industry Expertise: Look for a company familiar with your industry's specific challenges.
  • Advance Rate: Ensure the company offers an advance rate that aligns with your capital needs.
  • Interest Rate: Evaluate interest rates to avoid excessive costs that could reduce your profits.
  • Funding Time: Choose a company capable of providing funds within your required timeframe.
  • Fees: Carefully review the fee structure to assess the overall cost of invoice factoring.

Wrapping It Up

Invoice factoring is a flexible financial resource that assists businesses facing payment delays and cash flow shortfalls.

It provides tailored solutions for various financial obstacles, helping to strengthen cash reserves, support business expansion, and mitigate payment uncertainties.

Myos Asset-Based Financing: Your Solution for Growth

However, suppose you don't want to erode your profits and are not comfortable with the invoice factoring requirements.

In that case, consider asset-based financing as an alternative option.

Myos provides the working capital you need to grow without worrying about running out of cash or disrupting your cash flow.

How You Can Use Additional Capital:

๐Ÿ›’ Purchasing more inventory to respond to changes in customer demand and market conditions.ย 

โœˆ๏ธ Covering shipping and transport costs to maintain smooth operations.

๐Ÿ“ฑ Fund effective marketing to reach a larger audience and increase sales.ย 

๐Ÿ“ฆ Working capital can fund logistics improvements like a new warehouse, ensuring you can handle increased demand.

Is Myos Financing Right for You?

Myos financing is perfect for Amazon, eBay, and other B2C & D2C online sellers to get between โ‚ฌ10.000-2.500.000.

To see if your business is eligible, here are the criteria:

  • Your company has a registered office in Germany, Austria, Cyprus, or the United Kingdom (UK), and it is not a shell or shelf company.
  • Your company has been in business for at least 6 months.
  • Your company has been selling goods for at least 50 days.
  • Your products will be sold for at least โ‚ฌ5 (EU) or ยฃ5 (UK).
  • Your products are ready for sale.

Benefits of Myos financing:

๐Ÿ“ Myos operates without personal guarantees, allowing you to focus entirely on growing your business.

๐Ÿ“ You can repay the financing within 12 months, and there are no additional costs. Whether you realize after a week that you no longer need the funds, you can pay them back without penalties.

๐Ÿ“ Myos doesn't act as an intermediary or middleman between you, your suppliers, and your customers. This preserves your competitive advantage, and you maintain direct relationships with them.

๐Ÿ“ Applying for financing is a straightforward online process, free from lengthy forms or excessive paperwork.

Are you interested to learn more about how Myos can transform your business?

Sign up today and receive a free, non-binding offer!

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